Managerial Finance Harvard Case Solution & Analysis

Q1 a): In a well regulated securities market what is the highest level of ‘efficiency’ that could be attained in a market?

            A well regulated securities market does exists in many places in the world in which the securities are sold and purchased under rules and regulations. The security market deal with the primary market, i.e. IPO and secondary market i.e. stock exchanges. In these market the highest level of the efficiency is attained when the prices of securities are traded at its true or fair price. The assets are priced correctly as in the security market the shares are traded at its real price is the highest efficiency of the security market.

            Currently, the market is efficient as the information publicly available incorporates the effect of available information into the security as the market participants apply the information during its course of trading.

b) Why?

            The reason behind such statement that the market achieves its highest efficiency only when the stock price reflects its real value. The efficiency is only achievable when the public holds the same information about the company as it is presented to its directors and employees. In this case, the stocks crash and fraud situation does not arise.

            If the securities are being traded at the real price, then the market is considered to be stable and the price changes over the true available data that is being communicated to the market participants. In case of true price, the fraud and artificial market misleading steps use to occur occasionally that is common in nowadays that the management use to manipulate the information to generate the personal benefits.

            In the case of highest efficiency, the market becomes near about the risk free market in that case the risk of loss of investors of the market is secured.

Q2 a): Several celebrated investors and stock pickers mentioned in the financial press have recorded huge returns on their investments over the past few decades. Does the success of these particular investors invalidate the EMH (Efficient Market Hypothesis)?

            Efficient market hypothesis (EMH) is a theory that says that the market is efficient and all the stocks are being traded at the true price, therefore there is no room for extra arbitrage benefit. According to the theory writer the market has all information that is considered to be maximum information that is also held by the employees of the company. The market is efficient and incorporates all information available to the market participants. The only way to earn higher return is only through inviting in risky securities that pays a premium of risk. This theory justifies that the market has the highest level of efficiency (Jonathan Clarke, n.d.). In the past, there were some events that did not support this statement.

b) Explain.

            Lever Brothers, WorldCom and Enron were the examples that were against the statement. The explanation of one event is of WorldCom; in 2002 the accounting fraud at the WorldCom had largely affected its stocks and bonds due to the fraud. During that case, the shares and bonds were rated A+. Along with this, the shares had a buy option however; the shares had been frozen after some days. This case had shown scandal of $3.8 billion and the market participants were not aware of such information(Institutional Investor, 2002).

            In each efficient market of the world, they have some of the events unlike the one, which is discussed above as it does not support this statement. The market investors are deriving the insider information and sometimes they manipulate the market through their higher intervention over the decision making of the general investors. The reputed investors generate arbitrage benefit through insider information availability or using their efficiency to manipulate the market and generate personal gains by giving loss to the general investors who rely over the skills of reputed investors. Due to this, the reputed investors have earned high since last decades.Managerial Finance Case Solution

Q 3: Do you believe that investment markets are efficient? Why?

            The investment markets are considered to be semi-strong efficient market. In the form of market, the market incorporates all publicly available information, however it does not incorporate the insider information that is being held by the management and directors of that company. The investment market is efficient of the basis that it incorporate the publicly available information very rapidly without any delay due to the efficient participants of the market(MUSSAVIAN, 2000)....................

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