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Chapter 7: Q.17 (page 210)
鈥淔oreign exchange rates, like stock prices, should follow a random walk.鈥� Is this statement true, false, or uncertain? Explain your answer.
The assertion is correct since the foreign currency market should behave randomly and offer untapped profit chances.
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You are considering purchasing a -year bond and follow the theory of rational expectations. If you have just read the annual report of the central bank in your country that states interest rates are higher than expected, will you buy the bond today or in the next month?
Suppose that increases in the money supply lead to a rise in stock prices. Does this mean that when you see that the money supply has sharply increased in the past week, you should go out and buy stocks? Why or why not?
Why does entry occur?
What are the two main sources of cash flows for a stockholder? How reliably can these cash flows be estimated? Compare the problem of estimating stock cash flows to the problem of estimating bond cash flows. Which security would you predict to be more volatile?
鈥淎nytime it is snowing when Joe Commuter gets up in the morning, he misjudges how long it will take him to drive to work. When it is not snowing, his expectations of the driving time are perfectly accurate. Considering that it snows only once every ten years where Joe lives, Joe鈥檚 expectations are almost always perfectly accurate.鈥� Are Joe鈥檚 expectations rational? Why or why not?
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