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Money & Banking

Money & Banking. Week 5 Stock Market Efficiency. Stockholders. Residual claimants. Exposed to greater risk than bondholders. Earn a greater return … on average. Dividend Valuation Model. Gordon Growth Model. Rational Expectations.

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Money & Banking

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  1. Money & Banking Week 5 Stock Market Efficiency ECON305, Maclachlan, Spring 2005

  2. Stockholders • Residual claimants. • Exposed to greater risk than bondholders. • Earn a greater return … on average. ECON305, Maclachlan, Spring 2005

  3. Dividend Valuation Model ECON305, Maclachlan, Spring 2005

  4. Gordon Growth Model ECON305, Maclachlan, Spring 2005

  5. Rational Expectations Optimal forecasts (the best guess of the future) using all available information. Application to inflationary expectations. Relation to adaptive expectations. ECON305, Maclachlan, Spring 2005

  6. Efficient Markets Hypothesis “You can’t beat the market.” ECON305, Maclachlan, Spring 2005

  7. Weak Form of EMH There are no repeating patterns in stock prices. Technical analysis does not work. ECON305, Maclachlan, Spring 2005

  8. Strong Form of EMH All publicly available information is immediately incorporated into the price of the stock. Fundamental analysis does not work. ECON305, Maclachlan, Spring 2005

  9. Evidence in Favor of EMH • Performance of investment analysts and mutual funds. • Earnings announcements have no effect on stock prices. • Stock prices follow a “random walk.” ECON305, Maclachlan, Spring 2005

  10. Evidence Against EMH“Anomalies” • Small-Firm Effect • January Effect • Market Overreaction • Excessive Volatility • Mean Reversion • New Information Slow to be Absorbed ECON305, Maclachlan, Spring 2005

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