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17. According to the weak form market efficiency, current stock prices reflect all historical public information.
Thus, historical price trends are of no help in predicting future stock price movements. Under weak form market
The semistrong market efficiency focuses on the speed with which public information is impounded into stock
prices. According to the concept of semistrong market efficiency, as public information arrives about a company it is
immediately impounded into its stock price. For example, semistrong form market efficiency states that a common
The strong form of market efficiency states that stock prices fully reflect all information: both public and private.
Thus, according to strong form market efficiency even learning Ainside@ information about the firm is of no help in
18. Stock markets and stock market participants are subject to regulations imposed by the Securities and Exchange
Commission (SEC) as well as the exchanges on which stocks are traded. The main emphasis of SEC regulations is
on full and fair disclosure of information on securities issues to actual and potential investors. The two major
regulations that were created to prevent unfair and unethical trading practices on security exchanges are the
For example, in the early 2000s, a number of securities firms received tremendous publicity concerning conflicts of
interest between analysts’ research recommendations on buying or not buying stocks and whether the firm played a
role in underwriting the securities of the firm the analysts were recommending. After an investigation by the New
Subsequent to these investigations, the SEC instituted rules requiring Wall Street analysts to vouch that their stock
picks have not been influenced by investment banking colleagues and to disclose details of their compensation that
would flag investors to any possible conflicts. Evidence that analysts have falsely attested to the independence of
Along with these changes instituted by the SEC, the U.S. Congress passed the Sarbanes-Oxley Act in July 2002.
This act created an independent auditing oversight board under the SEC, increased penalties for corporate
wrongdoers, forced faster and more extensive financial disclosure, and created avenues of recourse for aggrieved
shareholders. Further, in 2002 the NYSE took actions intended to heighten corporate governance standards on
Global Crossings, Tyco, WorldCom, and others.
The SEC came under fire during the financial crisis for its failure to uncover Bernie Madoff’s Ponzi scheme. The
SEC apparently had evidence as early as 1994 (in relation to another case) that Madoff, a former chairman of the
NASDAQ stock market who was a member of SEC advisory committees, was conducting illegal activities. Further,
On May 19, 2006, when the Securities and Exchange Commission questioned Madoff under oath, he falsely
described how he would buy and sell stock and options contracts in Europe on behalf of his clients. The SEC asked
Madoff: “Is there any documentation generated?” Madoff said yes. But the SEC failed to pursue this further.
Eventually, the SEC recommended closing the investigation “because those violations were not so serious as to
The SEC’s internal watchdog, Inspector General H. David Kotz, stated that he was so concerned about the agency’s
failure to uncover Madoff’s alleged Ponzi scheme that he expanded an inquiry called for by SEC Chair- man
Christopher Cox. However, in July 2010, nearly 18 months after Madoff’s Ponzi scheme was exposed, lawmakers
were still questioning how the SEC staffers who reviewed the Madoff firm and investigated fraud allegations were
The SEC has delegated certain regulatory responsibilities to the markets (e.g., NYSE or NASDAQ). In these
matters, the NYSE and NASDAQ are self-regulatory organizations. Specifically, the NYSE has primary
responsibility for the day-to-day surveillance of trading activity. It monitors specialists to ensure adequate
The Financial Industry Regulatory Authority (FINRA) is the largest independent regulator for all securities firms
doing business in the United States. FINRA was formed in July 2007 as a result of the merger of the National
Association of Securities Dealers’ (NASD) with the enforcement arm of the New York Stock Exchange. FINRA
As mentioned earlier, the Wall Street Reform and Consumer Protection Act of 2010 (passed in response to the
financial crisis), gave the SEC and other regulators new powers to oversee the operations of stock markets. Among
these are rules empowering the SEC to disseminate a fiduciary standard for broker-dealers that provide personalized
Three years after the passage of the Wall Street Reform and Consumer Protection Act only about a third of the rules
required by the act have been written into law. The SEC has been charged with implementing 90 rules associated
19. The U.S. stock markets are the world’s largest. However, with the full implementation of a common currency—
the euro—in 2002, European markets grew in importance during the 2000s. Further, economic growth in Pacific
Basin countries, China, and other emerging market countries has resulted in significant growth in their stock
markets. Figure 8–16 shows the proportion of stock market capitalization among various countries in 1990, 2000,
2009, and 2013. The U.S. dominance in the stock markets is best seen in 2000. However, U.S. market capitalization
Note also the stock market developments in Europe, the Pacific Basin, and the emerging market countries from 1990
to 2013. European markets increased their market share (from 21.1 percent in 1990 to 30.5 percent of the total in
2000). However, as the U.S. financial crisis spread and Europe then fell into a deep sovereign debt crisis in the late
20. An ADR is a certificate that represents ownership of a foreign stock. An ADR is typically created by a U.S. bank
who buys stock in foreign corporations in their domestic currencies and places them in its vault. The bank then
issues dollar ADRs backed by the shares of stock. These ADRs are then traded in the U.S. on and off the organized
Level 2 or Level 3 program to gain better exposure in U.S. markets.
Level 2 ADRs can be listed on the major stock exchanges (NYSE and NASDAQ), but they have more regulatory
requirements than Level 1 ADRs. Issuers of Level 2 ADRs are required to register with the SEC, to file a form 20-F
(the basic equivalent to the regular 10-K filing by companies in the U.S.), and to file an annual report that complies
with GAAP standards. Due to their listing on the NYSE and Nasdaq markets, Level 2 ADRs have much higher
receipts, and a subsequent delisting from all exchanges on which they trade. The termination can be at the discretion
The major attraction to U.S. investors is that ADRs are claims to foreign companies that trade on domestic (U.S.)
exchanges and in dollars. Further, fees on ADRs are lower than those on many international mutual funds.
Additionally, as mentioned above, investments in foreign securities help diversify a stock portfolio with companies
Problems:
1. a. With cumulative voting, the total number of votes available is 75,000,000 (= 15 million shares outstanding x 5
directors). If there are six candidates for the five board positions, the five candidates with the highest number of
votes will be elected to the board and the candidate with the least total votes will not be elected. In this example, the
b. With straight voting, the vote on the board of directors occurs one director at a time. Thus, the number of votes
2. a. With cumulative voting, the total number of votes available is 300,000,000 (= 50 million shares outstanding x
6 directors). If there are eight candidates for the six board positions, the six candidates with the highest number of
votes will be elected to the board and the two candidates with the least total votes will not be elected. In this
example, the minimum number of votes needed to ensure election is one eighth of the 300 million votes available, or
b. With straight voting, the vote on the board of directors occurs one director at a time. Thus, the number of votes
3. You own 50,000 shares of common stock in a firm with 2.5 million total shares outstanding. The firm announces
a. Your current ownership interest is 2.0 percent (50,000/2.5 million) prior to the rights offering and you receive
b. The market value of the common stock is $35 before the rights offering, or the total market value of the firm is
$87.5 million ($35 x 2.5 million), and the 1 million new shares are offered to current stockholders at a $5 discount,
3.5 million).
c. Your 50,000 shares are worth $1.75 million ($35 x 50,000) before the rights offering, and you can purchase
d. Your 50,000 shares are worth $1.75 million ($35 x 50,000) before the rights offering. Since each right allows a
stockholder to buy a new share for $30 per share when the shares are worth $33.571, the value of one right should
4. You own 100,000 shares of common stock in a firm with 12.5 million total shares outstanding. The firm
a. Your current ownership interest is 0.80 percent (100,000/12.5 million) prior to the rights offering and you receive
20,000 rights (100,000 x 0.2) allowing you to purchase 20,000 of the new shares. If you exercise your rights (buying
b. The market value of the common stock is $22.50 before the rights offering, or the total market value of the firm is
$281.25 million ($22.50 x 12.5 million), and the 2.5 million new shares are offered to current stockholders at a
c. Your 100,000 shares are worth $2.25 million ($22.50 x 100,000) before the rights offering, and you can purchase
d. Your 100,000 shares are worth $2.25 million ($22.50 x 100,000) before the rights offering. Since each right
allows a stockholder to buy a new share for $20.10 per share when the shares are worth $22.10, the value of one
5. a. Abbott Laboratories closed at $36.58 per share on July 25, 2013.
c. The dividend yield on Waste Management’s stock was $1.46/$42.35 = 3.45%.
6. a. Ambercrombie & Fitch closed at $49.24 ($49.33 - $0.09) per share on July 24, 2013.
c. The firm’s P/E ratio is the ratio of the company’s closing price to earnings per share over the previous year.
7. a. Return = $2.75/$35.00 + ($30.00 - $35.00)/$35.00) = -6.43%
8. EXCEL Problem: Return = -11.00%
9.
(1) (2) (3) (4) (5) (6) (7) (8) (9) (10) (11) (12) (13) (14) (15)
ASymbol Open High Low Close Net
Chg %Chg Vol 52 Week
High
52 Week
Low Div Yield PE YTD
%Chg
McKesson MCK 61.00 61.14 60.28 60.60 -1.01 -1.64 2,719,785 71.49 53.57 0.72 1.19 13.00 -3.04
10.
(1) (2) (3) (4) (5) (6) (7) (8) (9) (10) (11) (12) (13) (14) (15)
ASymbol Open High Low Close Net
Chg %Chg Vol 52 Week
High
52 Week
Low Div Yield PE YTD
%Chg
Abercrombie&Fitch ANF 37.89 38.41 37.20 37.60 -1.21 -3.12 2,323,747 51.12 28.76 0.70 1.86 55.29 7.89
Column 14 is the Abercrombie & Fitch’s P/E ratio, 55.29; Column 6 reports Abercrombie & Fitch’s price—the
numerator of the P/E ratio—as $37.60.
