Question

Musashi and Rina are building their portfolios. Musashi purchases shares in a mutual fund and pays fees to a manager who actively manages the mutual fund's portfolio. He does so because he believes that the manager can identify inexpensive stocks that will rise in value. Rina is not convinced. She buys shares in an index fund—a type of mutual fund that simply buys all of the stocks in a given stock index rather than actively managing a portfolio.

Rina builds her portfolio based on the notion that:

A) All stocks are overvalued.

B) The stock market exhibits informational efficiency.

C) Stock analysts can use fundamental analysis to identify undervalued stocks.

Answer 1

It has been stated that Rina buys shares in an index fund. This implies that she believes in efficient market hypothesis.

This hypothesis states that stock prices reflect all the information and thus there is efficiency with respect to pricing of shares.

In other words, Rina builds her portfolio based on the notion that the stock market exhibits informational efficiency.

Hence, the correct answer is the option (B).