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Stock XYZ is priced today (at t=0) using the CAPM and the fundamentals given below, which are common knowledge: Next year dividend per share (D1) = $12, growth=0%, Rf = 3%, beta=1.5, (Rm-Rf)=6%. Suppose tomorrow (at t=1), the management learns that the growth rate will in fact be 2% instead of the 0% previously expected. Everything else stays the same, including the dividends next year which is still expected to be $12. This higher growth rate is not common knowledge yet; only the management knows it. Two days later (at t=2), the news of the higher growth rate are formally disclosed to the public through a press release.

(a) Find the market price today.
(b) Find the market price tomorrow assuming markets are, alternatively, strongly-efficient and semi-strongly-efficient.
(c) Find the market price two days later assuming markets are, alternatively, strongly-efficient and semi-strongly-efficient.
(d) Assume that markets are behavioral and tend to underreact to information such as release of growth rate forecast. Suppose the underreaction lasts for 3 months. Plot and explain the stock-price response to the news release. What can you say about the XYZ’s stock return during the three months after the public announcement?
(e) Suppose that we don’t know whether the markets are efficient or not; describe how you can test market efficiency in this situation.

2007-12-01 05:11:37 · 2 answers · asked by hare_rene 1 in Business & Finance Investing

2 answers

First, you ask a lot for only 2 or maybe 10 points.

Second, it is a math problem--the market is never merely a math problem or the top traders would all be math PhDs.

Third, you have two (at least) different "markets" in your story. There is the general stock market, and the market for XYZ stock. There are those who also scrutinize specific industries and have essentially a subset of both of the other two.

Markets are driven by opportunity and need. They are also driven by opportunity and greed. The first definition of opportunity is different from the second. It is almost a yin/yang thing in a sense. One is an 'invest for long term targets' and another is a 'trade because I can buy it cheap' (good stock gone too low) or buy because it is going higher (hold it while everyone and their dog is clammering for it, then sell just before the frenzy is finished)--depending on which way the price is trending when it snags attention.

The market is a mix of things. Institutions have free cash they park according to a formula. Individuals have a hot tip (like the higher growth rate news). Both could be buying at the same time and neither have the other one's reasons. The market is an aggregate of purposes.

2007-12-01 06:11:37 · answer #1 · answered by Rabbit 7 · 1 0

What do you advise with the aid of " lots envisioned and envisioned crash... of inventory industry". have been you the single looking forward to this? have you ever invested interior the markets? in that case, have you ever gained lots? i are not getting the rational on your query! Mr. you should do a sprint prognosis! i think of that right this moment replaced into basically yet another "down" day interior the markets brought about with the aid of a lengthy haul with the aid of the housing and credit disaster!

2016-12-30 08:17:38 · answer #2 · answered by Anonymous · 0 0

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