Question

PBYI’s current BID-ASK is $59.00 - $60.00. PBYI is going to release their annual report tomorrow; you have special skill in valuing biotech companies, and you believe that PBYI has an expected alpha tomorrow of 2% compared to the market’s current best estimate of fair value.  
Should you buy PBYI?  
What if the expected alpha was 0.5% instead of 2%... Would this change your answer?

Answer 1

PBYI’s current BID-ASK is $59.00 - $60.00. that means I can buy the Stock @ 60 and I can sell the stocks @ 59

"While selling a stock, you are going to get the bid price and if are buying a stock you are going to get the ask price"

Alpha refers to the excess return investment or a portfolio of investments makes above and beyond a market index or benchmark that represent the market’s broader movements.

"An alpha of 2% means the Stock`s return over a selected period of time was 2% better than the market during that same period"

If I consider PBYI`s has an expected alpha of 2 % tomorrow, So BID and ASK will be

BID=59*1.02=60.18

ASK=60*1.02=61.2

If I buy today, I can buy at a current Ask price of 60 and tomorrow I can sell at BID price of 60.18 and therefore make a return of 0.18 per share

So, Yes I would buy today If PBYI has an expected alpha tomorrow of 2% compared to the market’s current best estimate of fair value.

If I consider PBYI`s has an expected alpha of 0.5 % tomorrow, So BID and ASK will be

BID=59 *1.005=59.295

ASK= 60*1.005=60.3

So today I can buy at a current Ask price of 60 and tomorrow I can sell at BID price of 59.295, therefore making a loss of 0.705 per share (59.295-60)

So, my answer will change to NO If PBYI has an expected alpha tomorrow of 0.5% compared to the market’s current best estimate of fair value.