CH 7: Stock Price Behavior and Market Efficiency

Each provinces ___ enforces laws concerning illegal trading activities

Securities commission (OSC)

Illegal insider trading includes 2 roles

Tipper - the person who has purposely divulged material non-public info

Tippee - The person who has knowingly used such info in an attempt to profit

What must be declared during Legal Insider Trading

Must comply with reporting rules of the Securities Commission. Must declare it was based on public information.

3 Generalities about Market Efficiency

1. Short-term stock price and market movements appear to be difficult to predict with any accuracy

2. Markets react quickly and sharply to new information. Little to no evidence that such reactions can be profitably exploited

3. If stock market can be beaten, the way to do so is not obvious.

Effects If markets are efficient

Security selection becomes less important, as securities will become fairly priced.

Little use for professional money managers.

No sense to time the market.

3 facts about market anomalies

1. Generally do not involve many dollars relative to the overall size of the stock market

2. Many are fleeting and tend to disappear when discovered

3. Not easily used as the basis for a trading strategy because transaction costs render many of them unprofitable.

What is the day of the week effect

refers to the tendency for Monday to have a negative average return, which is economically significant.

What is the January effect

refers to the tendency for small-cap stocks to have large returns in January.

2 possible explanations for the January Effect

1. Tax-loss selling - Investors have a strong inventive to sell stocks that have gone down in value before the end of the year to realize the loss for tax purposes

2. Investment strategy by portfolio managers - Portfolio managers buy lots of small-cap stocks at the beginning of the year for their growth potential.

Turn of the year days

last week of daily returns in a calendar year and the first 2 weeks of daily returns in the next calendar year.

Rest of the days

Any daily return that does not fall into the 3 weeks in the turn of the year days.

Turn of the month days

daily returns from the last day of any month OR the following 3 days of the following month.

Bubble

Occurs when market prices soar far more than what normal and rational analysis would suggest. (will eventually pop)

Crash

A significant and sudden drop in market values (sudden, lasting less than a week)

After the crash of 1987, one of the most interesting changes was the introduction of

NYSE circuit breakers

In the NYSE circuit breakers, trading halts in all stocks for 15 minutes when the decline triggers a

Level 1 - 7%<

Level 2 - 13%<

Internet IPOs

Referred to as Dotcoms, a lack of solid business models doomed many, with many of them suffering huge losses.