1. Which of the following is true of a market that is informationally efficient (i.e., satisfies all the various forms of the Efficient Market Hypothesis)

a. The prices of securities reflect all available up-to-date information on their actual values (i.e., prices are not wrong).

b. the prices of securities are often such that better informed people CAN take advantage of less informed investors.

c. Prices do not reflect publically available information about the future cash flows of the firm.

d. Prices are too volatile (they change for no good reason).

e. a and b.

2. CAPM says that the average return on a security should be higher the higher is that securitys beta. This is true because

a. Beta, according to CAPM, is the measure of risk.

b. Beta is the amount of variation in the securities return that is unrelated to general market conditions as reflected in the return on the market.

c. Beta is a measure of whether the price is too low given the risk of the security.

d. Beta is the highest price the security had achieved in the previous year.

e. a and b.

3. Which of the following is/are consistent with CAPM?

1. The risk of a security is measured by that securitys beta.

2. The beta of a security is defined as the covariance of that security with the return on the market divided by the variance of the market return: beta_i=(Cov(R_i, R_M)/Var(R_M).

3. The market risk premium is defined as the difference between the expected return on the market and the risk-free rate: E(R_M) R_f.

4. The amount of the variance in the return on a security that is idiosyncratic (i.e., not due to market-wide factors or conditions) can be diversified away and, as a result, does not represent or create risk for the security.

5. All of the above

4. Which of the following is/are inconsistent with the semi-strong form of market efficiency?

1. On average, when a firm announces a takeover, the stock price of the target firm jumps up on the announcement.

2. On average, when a firm announces a takeover, the stock price of the bidding firm jumps down on the announcement.

3. On average, when a firm announces it will raise its dividend, the stock price jumps up on the announcement.

4. On average, when a firm announces it will raise its dividend at the market open, the return from the open of the market that day to the close of the market the following day exceeds that predicted by CAPM.

5. All of the above.

5. When a firm levers up (by issuing debt and buying back shares),

1. The required rate of return on its equity increases.

2. The beta of its equity decreases.

3. The firm reduces its corporate taxes by being able to write off the interest expense on debt as a tax deductible expense.

4. a and c.

5. b and c.

6. The beta of SleazeCo is 2.0. Which is/are true according to CAPM.

1. On average, the return on Sleaze Co is higher than that for the market.

2. The returns of SleazeCo are less risky than those of the market.

3. The risk free rate for SleazeCo is higher than that for the market.

4. On average, the return for SleazeCo will exceed the risk-free rate.

5. a and d.

7. The variance of the return for Company B is .01. What is the standard deviation of Company B return?

1. .01*.01 = .0001

2. (.01)^.5 = .1

3. .01

4. None of the above

8. The correlation between Company A and the Company B is -.3. If the standard deviations of the returns for both Company a and Company B are .1, then what is the covariance between the returns of Company A and Company B?

1. .3

2. .006

3. -.006

4. -.01

5. None of the above