CHAPTER 11
Efficient Markets and Behavioral Finance

Answers to Problem Sets

1. c 2. Weak, semistrong, strong, strong, weak. 3. a. False

b. False

c. True

d. False

e. False

f. True

4. a. False - In what kind of markets do financing decisions occur? Investment Decisions occur where?

b. False -

c. True – what information do stocks not reflect?

d. False- returns are the same for what kind of stocks?

5. 6 - (-.2 + 1.45 X 5) = -1.05%.

6. a. True

b. False

c. True d. True – can managers increase EPS?

7. Decrease. The stock price already reflects an expected 25% increase. The 20% increase conveys bad news relative to expectations. 8. a. Executives should not plan on issuing shares based on apparent trends or cycles in their company’s stock price.

b. Executives can observe their company’s stock price change and use the change as a reliable source of market-based information about the future prospects of the company. Stock price changes are the best forecast of a company’s future earnings as well as the best forecast future industry earnings. c. A financial manager evaluating the creditworthiness of a large customer could check the customer’s stock price and the yield on its debt. A falling stock price or a high yield could indicate trouble ahead.

d. Don’t assume that accounting choices that increase or decrease earnings will have any effect on stock price.

e. The company should not seek diversification just to reduce risk. Investors can diversify on their own. They can also create their own dividends and they can lever-up for themselves.

f. Stock issuances do not depress price by increasing supply, and buybacks