Suppose that a market efficiency supporter was trying to explain the high stock market returns between the
Question:
Suppose that a market efficiency supporter was trying to explain the high stock market returns between the start of 2009 and 2017 (over 15% per annum, annualized). He argued that the stock market was not irrationally overvalued, but rather merely that investors had (rationally) realized that the stock market is not particularly risky, so that required returns on the stock market had fallen.
a. Using the present value framework, explain this argument.
b. Does this argument explain the high returns over the period?
c. What would the argument predict going forward? Suppose that there is a large decline in the stock market in 2019. Would this vindicate the argument or not?
d. Your friend Bob is not particularly bright. He says “what do you mean, returns have gone down. For the past eight years, returns have gone up. If you’re estimating expected returns using historical returns, you should raise your estimate of future expected returns, not lower it.” Respond.
Accounting concepts and applications
ISBN: 978-0538745482
11th Edition
Authors: Albrecht Stice, Stice Swain