Flashcards in Topic 6 Deck (38)
Total dollar return =___________ + Capital gain (or loss)
Percentage return =(Dividends paid at end of period + Change in market value over period) / ________ market value.
+ Real return is the return after taking out the effects of inflation.
+ Real return shows the percentage change in __________ power.
+ Nominal return is the return before taking out the effects of inflation.
+ Nominal return is the percentage change in the of dollars you have.
The FIsher Effect
The Fisher effect explores the relationship between real returns (r), nominal returns (R), and _______ (h).
(1 + R) = (1+r)x(1+h)
The nominal rate is approximately equal to the real rate plus the inflation rate.
R ≈ r + h
CAPITAL MARKET HISTORY
+ Risky securities, such as stocks, have had higher average returns than riskless securities, such as Treasury Bills.
+ Stocks of small companies have had higher average returns than those of large companies.
+ Long-term bonds have had higher average yields and returns than ________ bonds.
+ The cost of capital for a company, project, or division can be predicted using data from the markets.
AVERAGE RETURNS: THE FIRST LESSON
+ A way to calculate the average returns on different investments is simply to add up returns for a number of periods and divide by the number of periods (e.g. years, months, days, etc.).
+ The ________ is the excess return required from an investment in a risky asset over a risk-free investment.
+ Lesson from history: ______ assets, on average, earn a risk premium (i.e. there is a reward for bearing risk).
risk premium, Risky
VARIABILITY: THE SECOND LESSON
+ The greater the risk, the greater the potential reward.
+ This lesson holds over the________, but may not be valid for the short term.
VARIANCE and STANDARD DEVIATION
+ Measures of variability.
+ Variance is the average squared deviation (SUM DIVIDE NUMBER MINUS 1)between the actual return and the average return.
+ Standard deviation is the _______ of the variance.
CAPITAL MARKET EFFICIENCY
+ The efficient market hypothesis (EMH) asserts that the price of a security accurately reflects all available information.
+ Implies that all investments have a _______ NPV.
+ Implies also that all securities are fairly priced.
+ If this is true then investors cannot earn ‘abnormal’ or ‘excess’ returns.
Efficient market reaction: The price ___________ adjusts to, and fully reflects, new information. There is no tendency for subsequent increases and decreases.
Delayed reaction: The price _______ adjusts to the new information. Several days elapse before the price completely reflects the new information.
Overreaction: The price over-adjusts to the new information. It ‘overshoots’ the new price, and _________ corrects itself.
WHAT MAKES MARKETS EFFICIENT ?
+ There are many investors out there doing research:
- As ______ information comes into the market, this information is analysed and trades are made based on this information.
- Therefore, prices should reflect all available public information.
+ If investors stop researching stocks, then the market will not be efficient.
EMH: COMMON MISCONCEPTIONS
+ __________ do not mean that you can’t make money.
+ They do mean that, on average, you will earn a return that is appropriate for the risk undertaken, and that there is not a bias in prices that can be exploited to earn excess returns.
+ Market efficiency will not protect you from making the wrong choices if you do not diversify—you still don’t want to put all your eggs in one basket.
Weak-form efficiency: Current prices reflect information contained in the _______ series of prices.
Semi-strong form efficiency: Current prices reflect information contained in the past series of prices, and all ______ publicly available information.
Strong-form efficiency: Current prices reflect all available information (e.g. past series of prices, public information and ________ information).
Risky assets, on average, earn a ________
The greater the potential _______ from a risky investment, the greater the risk.
In an efficient market, prices adjust quickly and correctly to ______ information
The Efficient Market Hypothesis (EMH) states that well organised capital markets are efficient, and investors ______make abnormal returns
Asset prices in efficient markets are rarely over or under priced, because ‘all available’ information has already been factored into the price, and investors get exactly what they ______.
Capital gain (increase) in ________
The greater the risk is, the ______ the required rate of return
Following the principle of opportunity cost (the cost of the alternative forgone), at a minimum, the rate of return required on the new project must be ________ than what we get from buy financial assets of similar risk
_________ returns: return on investment not adjusted for inflation
________ returns: returns adjusted for the effects of inflation
________: relationship between nominal returns, real returns and inflation
Treasury Bills : the __________ borrows money by issuing bonds