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Investment Theory: Indicate whether the statement is true, false, or uncertain, and explain why. 5. Weak-form...

Investment Theory:

Indicate whether the statement is true, false, or uncertain, and explain why.

5. Weak-form efficiency implies strong-form efficiency, as well.

6. The fact that nearly half of all professionally managed mutual funds outperform the S&P 500 in a typical year violates market efficiency.

7. In an informationally efficient market, since every asset is correctly priced, diversification does not yield any extra benefit.

Solutions

Expert Solution

5. False. Weak form of market efficiency implies that prices reflect all past information and fundamental analysis does not yield any results. Strong form of efficiency implies that prices already reflect all past, published and insider information and thus beating the market is impossible. Thus by definition, weak form of efficiency does not imply strong form is valid, but a strong form of efficiency implies that weak form of efficiency is valid.

6. False. As per EMH, the prices already reflect all the information and no player would be able to have any new I information that can enable him to make profit. This has always held true mainly due to the enormous number of market participants and advancement in technology. Although funds may outperform S&P, the return after considering the fund manager share is many a times quite small making passive fund management a better option than active management. The only reason why the EMH could not hold true is due to flaws in the system like insider information or delay in information reaching all market participants leading to some players having more information than others giving them an advantage over others.

7. False. Diversification benefit is not really related to the pricing of any asset but more related to sensitivity of certain assets to certain factors. For example my investment in real estate is impacted by certain changes in property taxes which do not impact my earnings on fixed deposits. Thus diversification benefit exists irrespective of information efficiency in market.  

jeff jeffy answered 6 months ago
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