Question

1. Describe the behavioral challenges in achieving efficiency. 2. Discuss the three forms of market efficiency....

1. Describe the behavioral challenges in achieving efficiency.
2. Discuss the three forms of market efficiency.
3. What are the implications of corporate finance?
4. Would you consider the real estate market an efficient capital market? Please explain why or why not.

Homework Answers

Answer #1

1.

One of the biggest challenges in achieving efficiency is that there are optical illusions, mirages, and apparent patterns in charts of stock market returns.This means that data does not match with available information and this leads to volatility in prices.

2.

The 3 types of market efficiency are as follows:

Weak form: Here, the current prices reflect past prices. Any type of technical analysis does not give any results.  

Semi-strong form: Here, the current prices reflect all public information. However, most financial analysis is useless.

Strong form: Here, the current prices reflect all that is known in the market. Since, all knowledge is freely available,all investors adapt rapidly and nobody consistently makes superior profits.

3.

The implications for corporate finance are as follows:

  1. This pushes managers to improve the current market value of the firm
  2. Since the market is efficient, managers should not try to manipulate the EPS of the firm as that will lead to corrections in the market price
  3. the returns on debt should also be highlighted by managers to ensure transparency and increase faith of investors.

4. the real estate market is one that is highly complex and looped. hence, it takes a lot of time before all relevant information is known by people. Often, a lot of material information does not disclose itself at all. Since efficiency assumes full availability of information, hence we can positively conclude that real estate market is not an efficient capital market.

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