The Information Efficiency....

The informational efficiency of financial markets determines the ability of investors to beat the market and earn abnormal returns on their investments. If the markets are efficient, they will react rapidly as new relevant information becomes available. Financial theorists have identified three levels of informational efficiency that reflect what information is incorporated in stock prices. Consider the following statement: Current market prices reflect all relevant information, whether it is known publicly or privately. Identify the form of capital market efficiency based on the preceding statement. Semistrong-form efficiency Weak-form efficiency Strong-form efficiency Consider that there is a weak form of efficiency in the markets. A pharmaceutical company announces that it has received FDA approval for a new allergy drug that completely prevents hay fever. The consensus analyst forecast for the company's earnings per share (EPS) is $4.50, but insiders know that, with this new drug, earnings will increase and drive the earnings per share to $5.00. What will happen when the company releases its next earnings report? The stock price will not change, because the market already incorporated that information in the stock price when the announcement was made. There will be some volatility in the stock price when the earnings report is released; it is difficult to determine the impact on the stock price. However, the prices will eventually adjust to the announcement. The stock price will increase and settle at a new equilibrium level. The degree of market efficiency affects investors and market participants but has important implications for financial managers as well. When markets are efficient and information is immediately reflected in market prices, required return on a security should be the expected return on the security. Along with the concept of efficiency of markets, academicians and researchers around the world also believe that investors are not always rational. Investor behavior and perception affect the performance of securities in the markets. This field of study is called behavioral finance. True or False: In order to cut losses, a rational investor would sell a stock if its value is decreasing. True False