Market Efficiency Tests

Q1. Nifco Co. wants to invest in a new project in a cement industry. The project was decided and announced yesterday which has a good future prospect for the company. As soon the investment decision was announced the share price in the market increased significantly. This drastic change indicates? (MRQ)

• A weak market
• A semi-strong market
• It was a one-off event
• A strong market
  (2 marks)

Q2. Guillermo wants to create a strategy & establish business models by plotting the share price movements on its computer. He believes the market is? (MCQ)

• Semi-Efficient
• Completely Inefficient
• Completely Efficient
• The weak form of efficient
  (2 marks)

Q3. Which of the following are the benefits to a completely efficient capital market from an investor’s point of view? (MRQ)

• The investor has more confidence in its investment
• Prices of shares may be undervalued
• It reflects the director’s performance in the share price
• The share price remains constant
  (2 marks)

Q4. What will be your perception of the market for obtaining abnormal gain by? (P;D)
Dealing directly with an inside person Using past trend analysis Using recent available financial statements INEFFICIENT STRONG WEAK

SEMI – STRONG

(2 marks)

Q5. Which of the following is a feature of an efficient market? (MCQ)

• No individual can have a market monopoly
• Transaction cost in the market is high
• Information is available but at a huge expense
• The shareholders want a higher return
  (2 marks)

Q6. Which type of information is available for the investor if? (HA)
A positive NPV investment project disclosed in the last year’s financial statements PAST INFORMATION PUBLIC INFORMATION INSIDER

• INFORMATION
  A board member of a company suggesting his wife buy the company’s shares before the annual AGM PAST INFORMATION PUBLIC
• INFORMATION INSIDER INFORMATION
  (2 marks)

Q7. WE Co. is considering bidding for EW Co. Both the entities are public listed entities with shares issued in the garment market. Both entities share prices react quickly to any newly available information. Which of the following is likely to be needed to allow WE Co. to make sure the bid submitted is not too high? (MCQ)

• Aging analysis of Receivables
• The most recent financial statements
• The estimated present value due to the merger
• No information needed as the market is weak
  (2 marks)

Q8. Select the appropriate theory. (HA)

• Share price expects to fluctuate near its intrinsic value TECHNICAL ANALYST RANDOM WALK FUNDAMENTAL ANALYSIS
• Past share price patterns usually repeat TECHNICAL ANALYST RANDOM WALK FUNDAMENTAL ANALYSIS
• The value of a share is the discounted present value of all future expected dividends on the share, discounted at the shareholders’ cost of capital. TECHNICAL ANALYST RANDOM WALK FUNDAMENTAL ANALYSIS
  (2 marks)

Q9. Select the appropriate factors which affect the behavior of share price. (MRQ)

• Investors speculation
• Market capitalization
• Pricing anomalies
• Available information
  (2 marks)

Q10. Which of the following TWO reasons would prevent information to be readily unavailable for any unlisted company? (MRQ)

• A weak control environment
• Audited financial statements
• In compliance with the regulation
• Record keeping is detailed
  (2 marks)

Market Efficiency (Answers)

Q1.

• A semi-strong market
• A strong market
• It is a semi-strong ; a strong market as the share prices reacted instantly which indicates that all information was incorporated instantly.

Q2. B

If considering weak form, all past information is already incorporated. This means that Guillermo seems that market is completely inefficient.

Q3.

• The investor has more confidence in its investment, an efficient market will allow investors to assess their investment properly as information will be available in the market, hence a (Benefit)
• Prices of shares may be undervalued, all information will be incorporated ; all share prices will be as per market
• It reflects the director’s performance in the share price, the directors primary objective is to maximize shareholders wealth so will be able to incorporate all information and results reflected in the share price, hence (Benefit)
• The share prices remain constant, as all information is incorporated in an efficient market the share price will fluctuate if any new information is available

Q4.

• Dealing directly with an inside person SEMI-STRONG
• Using past trend analysis INEFFICIENT
• Using recent available financial statements WEAK

Q5. A

• No individual can have a market monopoly (Feature)
• Transaction cost in the market is not so high as to discourage trading significantly
• Information is available but at a no or very low expense
• The shareholders want a higher return (Impact of the efficient market)

Q6.

• A positive NPV investment project disclosed in the last year’s financial statements PAST INFORMATION
• A board member of a company suggesting his wife buy the company’s shares after the annual AGM INSIDER INFORMATION

Q7. C

If WE Co. pays more than EW Co.’s current value + present value of the merger then it will have paid a price which generates a negative NPV.

Q8.

• Share price expects to fluctuate near its intrinsic value RANDOM WALK
• Past share price patterns usually repeat TECHNICAL ANALYST
• The value of a share is the discounted present value of all future expected dividends on the share, discounted at the shareholders’ cost of capital. FUNDAMENTAL ANALYSIS

Q9. All the above factors affect the share price

Q10.

• A weak control environment (Reason)
• Unaudited financial statements
• In compliance with the regulation (Reason)
• Record keeping is less detailed