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A Random Walk Down Wall Street Questions and Answers 100% Pass
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A Random Walk Down Wall Street Questions and Answers 100% Pass Part 1-Firm Foundations and Castles in the Air - What is a Random Walk? - A random walk is one in which future steps or directions cannot be predicted on the basis of past actions -When the term is applied to the stock market, it ...

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  • December 5, 2024
  • 27
  • 2024/2025
  • Exam (elaborations)
  • Questions & answers

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A Random Walk Down Wall Street Questions and
Answers 100% Pass


Part 1-Firm Foundations and Castles in the Air - ✔✔


What is a Random Walk? - ✔✔A random walk is one in which future steps or directions cannot be

predicted on the basis of past actions


-When the term is applied to the stock market, it means short-run changes in stock prices cannot be

predicted


-Idea is that investment advisory services, earnings predictions, and complicated chart patterns are

useless.


Market process information effectively: Three Forms - ✔✔-Market professionals arm themselves against

the academic onslaught with one of two techniques: fundamental or technical analysis.


-Academics parry these tactics by stressing the RANDOM WALK theory with three versions


-weak: The weak-form EMH implies that the market is efficient, reflecting all market information. This

hypothesis assumes that the rates of return on the market should be independent; past rates of return

have no effect on future rates


-semi strong: The semi-strong form EMH implies that the market is efficient, reflecting all publicly

available information. This hypothesis assumes that stocks adjust quickly to absorb new information


-strong: The strong-form EMH implies that the market is efficient: it reflects all information both public

and private, building and incorporating the weak-form EMH and the semi-strong form EMH


But just how efficient is the market?




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,Investing as a way of life today - ✔✔Investing involves buying assets to seek a positive return


-It is the definition of the time period for the investment return and the predictability of the returns that

often distinguish an investment from a speculation.


-Just to stay even, your investments have to produce a rate of return equal to inflation


-seeking to get rich slowly. buy and hold over the long term


-Even if you trust all your funds to an investment adviser or to a mutual fund, you still have to know

which adviser or which fund is most suitable to handle your money.


Most important of all is the fact that investing is fun. It's fun to pit your intellect against that of the vast

investment community and to find yourself rewarded with an increase in assets.


Investing in theory - ✔✔All investment returns are dependent, to varying degrees, on future events;

uncertainty, risk


-Investing is a gamble whose success depends on an ability to predict the future. Traditionally, the pros in

the investment community have used one of two approaches to asset valuation: the firm foundation

theory or the castle-in-the-air theory.


Firm Foundation Theory - ✔✔each investment instrument, be it a common stock or a piece of real estate,

has a firm anchor of something called intrinsic value, which can be determined by careful analysis of

present conditions and future prospects.


-When market prices fall below (rise above) this firm foundation of intrinsic value, a buying (selling)

opportunity arises, because this fluctuation will eventually be corrected.


-The theory stresses that a stock's value ought to be based on the stream of earnings a firm will be able to

distribute in the future in the form of dividends. It stands to reason that the greater the present dividends

and their rate of increase, the greater the value the stock; thus, differences in growth rates are a major

factor in stock valuation.

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Crafted for Academic Insight by KatelynWhitman. All rights reserved © 2025

, -intrinsic value= discounted value of expected future income


Castle-in-the-air theory - ✔✔-concentrates on psychic values.


-Keynes argued that professional investors prefer to devote their energies not to estimating intrinsic

values, but rather to analyzing how the crown of investors is likely to behave in the future and how

during periods of optimism they tend to build their hopes to castles in the air


-the successful investor tries to beat the gun by estimating what investment situations are most

susceptible to public castle-building and then buying before the crown


-Keynes analogy of newspaper beauty-judging contest: the optimal strategy is not to pick those faces the

player thinks are prettiest, or those the other players are likely to fancy, but rather to predict what the

average opinion is likely to be


-An investment is worth a certain price to a buyer because she expects to sell it to someone else at a

higher price: Greater fool theory


-Robert Shiller, in his best-selling book Irrational Exuberance, argues that the mania in Internet and high-

tech stocks during the late 1990s can only be explained in terms of mass psychology


How the Random Walk is to be Conducted - ✔✔Historical patterns: Tulip bulbs, Nifty 50-Nifty Fifty

refers to the 50 popular large-cap stocks on the New York Stock Exchange in the 1960s and 1970s that

were widely regarded as solid buy and hold growth stocks. The fifty are credited with propelling the bull

market of the early 1970s, dot com boom/bust


the Madness of Crowds - ✔✔The psychology of speculation is a veritable theater of the absurd. Although

the


castle-in-the-air theory can well explain such speculative binges, outguessing the reactions of a fickle

crowd is a most dangerous game. Unsustainable prices may persist for years, but eventually they reverse

themselves


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Crafted for Academic Insight by KatelynWhitman. All rights reserved © 2025

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