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Chapter 7: Q.11 (page 210)

If you read in the Wall Street Journal that the “smart money” on Wall Street expects stock prices to fall, should you follow that lead and sell all your stocks?

Short Answer

Expert verified

No, one should not sell the stock because the information is publicly known and its impact may be observed in the market or on stock prices.

Step by step solution

01

Stock market : 

A market where businesses may register and sell long-term debt and securities to the general public.

02

Explanation :

No, one should not sell the stock because the information is publicly known and its impact may be observed in the market or on stock prices. If one sells the stock, he or she will receive a return equal to the equilibrium return, hence selling the stock will not be beneficial.

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Most popular questions from this chapter

You are considering purchasing a 10-year bond and follow the theory of rational expectations. If you have just read the annual report of the central bank in your country that states interest rates are higher than expected, will you buy the bond today or in the next month?

If higher money growth is associated with higher future inflation, and if announced money growth turns out to be extremely high but is still less than the market expected, what do you think will happen to long-term bond prices?

Suppose that you decide to play a game. You buy stock by throwing a dice a few times, using that method to select which stock to buy. After ten months you calculate the return on your investment and the return earned by someone who followed “expert” advice during the same period. If both returns are similar, would this constitute evidence in favor of or against the efficient market hypothesis?

Suppose that you are a trader at the stock market. T-Mobile’s stocks currently trade at $45and the expected return is 9%. You have information that leads you to believe that by the end of year the company’s returns will be around 40%. Are your expectations optimal? How will your behavior influence the stock price?

Visit the Bloomberg Markets website at www.bloomberg .com/markets/stocks. Their interactive graph allows you to see cumulative returns for individual stocks as well as market indices. Over the last five years, which of the three indices appears the most volatile––the S&P 500 (SPX:IND), the Dow Jones Industrial Average (INDU:IND), or the NASDAQ Composite (CCMP:IND)? Which index would have been the best investment if compounded over the last five years?
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