George Washington University Efficient Market Hypothesis Questions Response

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Business Finance

George Washington University

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10) Link the economic cycle to Stephen Ross’ arbitrage pricing theory (APT) framework, explaining where the economy is positioned and where the portfolio should be positioned which respect to APT betas, respectively. Explain the foundational elements of the Fama-French (FF) Three Factor Model.

11) What does the Efficient Market Hypothesis (EMH) portend? What five anomalies appear difficult to reconcile with the EMH?

12) Explain behavioral fiancé in the context of heuristics, biases, and anomalies. What is a market bubble, how do bubbles confirm or disaffirm the EMH, and who wrote Manias, Panics and Crashes? Finally, what are the six stages outlined in MP&Cs?

13) Explain “liquidity” as a priced market factor? When is liquidity particularly valuable? What is the Equity Risk Premium Puzzle?

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Running head: QUESTIONS ABOUT FINANCIAL INVESTMENT

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QUESTIONS ABOUT FINANCIAL INVESTMENT

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4 Questions about Financial Investment
10) Link the economic cycle to Stephen Ross’ arbitrage pricing theory (APT)
framework, explaining where the economy is positioned and where the portfolio should
be positioned which respect to APT betas, respectively. Explain the foundational
elements of the Fama-French (FF) Three Factor Model.
The Arbitrage Pricing Theory (APT) is a pricing model that utilizes multiple factors
in determining the value of an asset. APT considers the relationship of an asset’s expected
returns and various microeconomic variables. The APT method is useful in investments that
are value-intensive as it helps discern the securities that are momentarily mispriced due to
economic cycles (Reza Tavakoli Baghdadabad & Glabadanidis, 2014). The Arbitrage Pricing
Model was built under the presumption that individuals cannot make profits without
incurring risks. The economic cycle entails the fluctuations of the economy between the
boom and recession periods. Hence, using APT, an investor is more likely to incur many
risks during the contraction phase of the economy compared to the growth season (Reza
Tavakoli Baghdadabad & Glabadanidis, 2014). The APT theory is based on the principle that
the efficiency of the stock market varies. The hypothesis asserts that two identical ventures
would have equal risks.
The Fama French Three-Factor Model is also an asset pricing model that expounds
further on the concept of CAPM by including value risk and size risk factors (Jiao & Lilti,
2017). Given the volatility of the stock market, the model is presumed ...


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