Conventional wisdom holds that financial markets are informationally

Thanks. I did not read the first para carefully..

This is what I missed - " In other words, one can only obtain higher returns by purchasing riskier investments, and not through expert timing or speculative stock selection. There are three major interpretations of this efficient market hypothesis: "

This indirectly suggests risk is a key factor..

HI Roopika,

Sure...

So this is a question on the weak form of EMH.

The passage explains that this is essentially that past performance of a stock can not be used to predict future prices. I.e. past performance has no impact.

So for this to hold, we must be looking about evidence about past prices.

E is the only one that doesn't do this - it talks about new information, whether or not this is in the price is irrelevant for weak EMH

James

Tough one to read, took more time but got both the answers right

1) E (Detail question type)
2) C (Inference question type)

could you please clarify this.

in para 2 for Weak EMH nothing is mention for risk.
and in option A we are talking about risk. Please clarify this.

Thanks

[A] One can only obtain higher returns by assuming more risk.
vs.
[E] New market information concerning an important take-over would be immediately reflected in the current price of a share.

For question (1), the answer must be E and not A, because only historic data is known, and there's no way to predict the future price of stock(s). Your best bet of large gains is to assume heavy risk for higher gains. The first paragraph refers to it, which is part of the weak hypothesis' definition; furthermore, the answer is consistent with (1). Whereas, answer choice E states the point of the Semi-Strong hypothesis. The keyword is "immediately" - the Weak hypothesis never mentions anything about immediate reaction to current info, only a general reaction to current info; the immediate reaction to public info is exactly what differentiates the Semi-Strong from the other two hypotheses.


For question (2), I disagree with the OA as C:

[C] In the absence of new information released to the public, stock prices will not adjust substantially immediately following an initial change.

Notice that choice C is a very general effect - if it specifically stated that stock prices will not adjust substantially immediately following an initial change due to public info, then that answer is consistent with the Semi-Strong (S-S) hypothesis and thus correct. If you believe in the S-S hypothesis, then only public info should affect future stock prices in order to make reliable/consistent predictions, and all new public info is immediately registered in the stock price. However, the S-S hypothesis doesn't reject the affects of private info. In fact, paragraph one states that the Efficient Market Hypothesis assumes and thus applies only to publicly available information (note: the Strong hypothesis explicitly modifies this assumption by also assuming private info). It is still possible, then, that the absence of public info may still substantially alter the value of a stock through info privy only to private parties, e.g. insider trading. The S-S hypothesis will assert that independent investors won't know this private info to consistently, let alone once, take advantage of future stock prices (as soon as they know, it becomes public by definition).

Moreover, the EMH also doesn't reject risky investors. In fact, by asserting that risky stock gambles are the only way to beat the stock's average returns, the S-S EMH followed admits and acknowledges the existence of risky behavior of some investors, or at least the possibility of it. Then, risky behavior may cause stocks to rise after an initial price change. An avid believer of the S-S EMH won't simply assume that the market functions with only risk-averse investors and with only public information affecting stock prices. If one were to, then answer choice A in Q1 needs to be considered. Simply put, the S-S EMH only applies under its given conditions and thus stock prices can be affected by outside factors.

Note that choice C is consistent with the Strong hypothesis, in that private info may substantially affect current stock prices in the absence of any new public info, because new private info may follow. This logic is not contradictory with the logic given for question 1's answer choice E (immediate reaction vs general reaction to determine future price), because Q2's answer choice C is very general, and not as specific as in Q1's answer choice.

None of the answer choices for (2) are technically correct.

Hi,Got the answer correct in 8 minutes:-(