Biases and Portfolio Selection Coursera Quiz Answers

All Weeks Biases and Portfolio Selection Coursera Quiz Answers

Week 1: Welcome and Introduction

Quiz 1: Efficient markets hypothesis

Q1. Which of the following statements is true?

• If the weak form of the efficient market hypothesis is valid, then the strong form also holds.
• If the strong form of the efficient market hypothesis is valid, then the weak form also holds.

Q2. The semi-strong form of market efficiency states the following:

• Stock prices fully reflect all historical price information
• Stock prices fully reflect all publicly available information
• Stock prices fully reflect all relevant information including insider information
• Stock prices may be predictable

Q3. What distinguishes the three forms of market efficiency from each other?

• The definition of efficiency
• The definition of excess returns
• The definition of information
• The definition of prices

Q4. Which of the following statements is incorrect in an efficient market?

• Security prices adjust quickly to new information.
• Insiders earn abnormal trading profits.
• Prices are seldom far above or below their fundamental values.
• Fundamental analysis will not consistently earn investors superior returns.

Q5. Which of these rely on past price movements of a firm’s stock rather than the underlying determinants of future profitability?

• Fundamental analysts
• Technical analysts
• Credit analysts
• System analysts

Quiz 2: Are markets efficient?

Q1. Studies of stock price reactions around news events are called…

• Reaction studies
• New studies
• Event studies
• Price studies

Q2. Which of these statements is incorrect?

Earnings announcements studies have shown that…

• There is a positive drift in the stock price on the days following a positive earnings announcement surprise.
• There is a positive abnormal return on the day of the positive earnings surprise announcement.
• The stock price on average does not respond to earnings surprise announcements.
• There is a positive abnormal return on the day of the positive earnings surprise announcement and a positive drift on the days following the announcement.

Q3. True or False.

Research shows that stocks of large-cap firms, on average, outperform small-cap stocks.

• True
• False

Q4. A devastating and unexpected freeze hits Florida during orange harvest time. What do you expect to happen to the price of Florida Orange stock in an efficient market?

• It will drop immediately.
• It will not change.
• It will increase immediately.
• It will increase gradually over the coming weeks.

Q5. Studies on mutual fund and analyst performance indicate that… (Select all that apply).

• There does not appear to be persistence in mutual fund performance.
• Actively managed funds consistently outperform the market.
• Positive analyst recommendations are on average associated with positive returns.

Quiz 3: Efficient markets and limits of arbitrage

Q1. Suppose you observed a high-level executive of a company make superior returns on their investments in their company’s stock.

Which of the following statements is correct?

• This would be a violation of the weak form of market efficiency.
• This would be a violation of the semi-strong-form market efficiency.
• This would be a violation of the strong-form market efficiency.
• This would not be a violation of market efficiency.

Q2. Assume that a company announces an unexpectedly large cash dividend to its shareholders. In an efficient market without information leakage, you would expect:

• An abnormal price change at the announcement
• An abnormal price change before the announcement
• An abnormal price change after the announcement
• No abnormal price change before or after the announcement

Q3. If you believe in the _ form of the efficient markets hypothesis, you believe that
stock prices only reflect market trading information such as the history of past stock prices, trading volume or short interest.

• Strong
• Semi-strong
• Weak
• None of the above.

Q4. Which of the following is a common strategy for passive management?

• Investing only in summer months
• Investing in an investment club
• Investing in a small firm fund
• Investing in an index fund

Q5. Which of the following would provide evidence against the semi-strong form of market efficiency?

• Low P/E stocks on average have positive abnormal returns
• Trend analysis does not help determine future stock prices
• It is possible to outperform the market by following a contrarian strategy illustrated by the reversal effect.
• Past volume does not help predict future returns.

Q6. Which of the following statements is incorrect?

• Cumulative abnormal returns (CAR) are measures of security returns due to firm-specific events.
• Cumulative abnormal returns (CAR) are constructed by adding abnormal returns prior to the firm-specific event.
• Cumulative abnormal returns (CAR) are used in event studies.
• Cumulative abnormal returns (CAR) are constructed by adding abnormal returns after the firm-specific event.

Q7. Jones Corporation has a beta of 1.3. The annualized market return yesterday was 11%, and the risk-free currently is 3%. You observe that Jones Corporation had an annualized return of 21%.

If markets are efficient, based on Jones’ stock return, you guess that…

• The bad news about Jones was announced yesterday.
• The good news about Jones was announced yesterday.
• No news about Jones was announced yesterday.
• There was good news about the market as a whole yesterday.

Q8. Which of these statements is incorrect?

• The momentum effect refers to the fact that the good or bad performance of individual stocks continues over time.
• The reversal effect refers to the fact that stocks that have performed the best in the recent past seem to underperform the rest of the market in subsequent periods.
• The small-firm effect refers to the fact that the average return of large-cap stock portfolios is consistently higher than small-firm portfolios.
• Studies of short- to intermediate-horizon returns have documented momentum, but longer-horizon returns show reversals.

Week 2: Biases and Portfolio Selection

Quiz 1: Heuristic-driven biases and frame Dependence

Q1. Statman (1997) argues that investors prefer stocks with high cash dividends that they feel they are free to spend, but would not dip into capital by selling a few shares of another stock with the same total rate of return. This behavior is consistent with…

• Risk aversion
• Conservatism
• Mental accounting
• Regret avoidance

Q2. “Buying a blue-chip portfolio that turns down is not as painful as experiencing the same
losses on an unknown start-up firm.” Which type of behavior does this illustrate?

• Risk aversion
• Conservatism
• Regret avoidance
• Representativeness bias

Q3. Those who bet on trends extrapolate. They bet that trends continue. Those who commit
gambler’s fallacy predict reversal. Which heuristic bias can explain both behaviors?

• Representativeness
• Conservatism
• Availability bias
• Overconfidence

Q4. Which bias do analysts display when they fail to adjust their earnings predictions
sufficiently in response to new information contained in earnings announcements?

• Conservatism
• Risk aversion
• Mental accounting
• Regret avoidance

Q5. The house money effect refers to gamblers’ greater willingness to accept new bets if they
currently are ahead. Which of the following does the house money effect illustrate?

• Representativeness
• Mental accounting
• Confirmation bias
• Availability bias

Q6. Which of the following cases can be considered as a self-control bias?

• People tend to hold classes of assets with which they are familiar.
• People prefer present consumption to saving for retirement.
• People tend to be very conservative in their investment choices as a result of poor outcomes on risky investments in the past.
• People feel safer in popular investments in order to limit potential future regret.

Q7. Identify which of the following situations can be regarded as self-control bias.

• You have to study for an exam of a demanding course that is scheduled 2 days from now. A friend invites you to his party tonight. You have to study cause the time is limited but still you decide to go to the party.
• You are driving the same car for 15 years and it just had another serious mechanical issue that needs to be fixed. The mechanic suggests that you can save money if you sell your old car and replace it with a newer one. You are not willing to sell your car that you are used to driving for so many years.

Quiz 2: Biases and Realistic Preferences

Q1. Which of the following describes investors’ behavior in being too slow in updating
their beliefs in response to new information?

• Overconfidence
• Conservatism
• Framing
• Regret avoidance

Q2. Which of the following is the technical name for people’s desire to find information that agrees with their existing view?

• Conservatism
• Framing
• Confirmation bias
• Over-optimism

Q3. Participants in an experiment were taken to a house for sale, asked to inspect the house for 20 minutes, and given a 10-page handout giving information about the house and about other houses in the area. The handouts given to subjects were identical except for the asking price. Subjects were then asked their opinions of the appraisal value, appropriate listing, purchase price, and the lowest offer price they would personally accept. Agents who were given an asking price of $119,900 had a mean predicted appraisal value of $114,201, a listing price of $117,745, a purchase price of $111,454, and a lowest acceptable price of $111,136. Subjects who were given an initial asking price of $149,900 had a mean appraisal value of $128,754, a listing price of $130,981, a predicted purchase price of $127,318, and a lowest offer price of $123,818.

What bias does this experiment illustrate?

• Overconfidence
• Conservatism
• Framing
• Anchoring

Q4. Kahneman and Tversy (1973) asked people the following: “In a typical example of text in the English language, is it more likely that a word starts with the letter K or that K is its third letter?” Of the 152 people in the sample, 105 generally thought that words with the letter in the first position were more probable. However, in reality there are approximately twice as many words with K as the third letter as there are words that begin with K. People index on the first letter, and can recall them easier. Which bias does this example illustrate?

• Overconfidence
• Conservatism
• Confirmation bias
• Availability bias

Q5. If an investor sees many periods of good earnings then she is inclined to believe that the
firm is one with particularly high earnings growth and hence is likely to continue to deliver future high earnings growth. This is an illustration of which bias?

• Overconfidence
• Representativeness
• Availability bias
• Loss aversion

Q6. A person may reject an investment when it is posed in terms of risk surrounding potential
gains but may accept the same investment if it is posed in terms of risk surrounding potential losses. What is this an example of?

• Framing
• Regret avoidance
• Overconfidence
• Conservatism

Q7. What type of utility function does the behavior in question 6 describe?

• Mean-variance utility
• Prospect utility
• Keeping up with the Joneses
• Habit utility

Q8. What types of errors lead investors to underestimate the true probabilities of possible events or associated rates of return?

• Regret avoidance
• Mental accounting errors
• Framing errors
• Information processing errors

Q9. Conservatism explains why investors are too in updating their beliefs in response to the news, and hence, they initially _______ to the news.

• quick; overreact
• quick; underreact
• slow; underreact
• slow; overreact

Q10. Which of these following statements is not correct?

• Traditional theory assumes that utility functions are concave and defined in terms of wealth.
• Prospect theory assumes that utility functions are S-shaped.
• Prospect theory assumes that utility functions are convex over gains and concave over losses.
• Prospect theory assumes utility functions are defined over gains and losses.

Week 3: Biases and Portfolio Selection

Quiz 1: Applications – the Aggregate Stock Market

Q1. Which of the following statements is not correct?

• The equity premium puzzle refers to the fact that historical excess returns are too high to be consistent with economic theory.
• The degree of risk aversion that would be necessary to explain the historical excess returns is not consistent with reasonable levels of risk aversion.
• The equity premium puzzle refers to the fact that historical excess returns are too low to be consistent with economic theory.
• The equity premium refers to the difference between return provided by the equity market over the risk-free rate.

Q2. Which of the following describes the behavioral explanation to the equity premium puzzle?

• Myopic loss aversion
• Conservatism
• Representativeness
• Regret theory

Q3. The long-term Price/Earnings (P/E) ratio for the overall market…

• has some predictive power, but is not very precise.
• is a sure way to make money.
• has no predictive power.
• can explain the house-money effect.

Q4. The volatility puzzle can be explained by which of the following biases:

(Select all that apply).

• Representative bias
• Conservatism bias
• Overconfidence bias
• Confirmation bias

Q5. Which of the following characterizes a closed-end fund?

• After the initial offering, the amount of shares issued is fixed.
• The law of the one-price rule is valid.
• Shares are always sold in the net asset value.
• What applies for open-end funds is also the case for closed-end funds.

Q6. Individual investors
are more likely to be subject to shifting moods of optimism or pessimism,
which we call investor sentiment. Which of the following statements is incorrect
if the closed-end fund discount is driven by changes in investor
sentiment?

• If the return to small stocks goes up on average, as investors become more optimistic, then we should observe the narrowing of the discount.
• If the return to small stocks goes up on average, as investors become more
  optimistic, then we should observe the discounts getting bigger.
• If the number of IPOs goes up, then we should observe a narrowing of the discounts.
• There is a correlation between the relative performance of small stocks and the
  closed-end fund discounts.

Quiz 2: Applications – The cross-section of average stock returns

Q1. Which of the following statements is correct?

• Long-run reversal refers to the fact that stocks that have performed best over the past three to five years outperform stocks that have performed the worst over the same period.
• Long-run reversal refers to the fact that stocks that have performed the worst over the past three to five years outperform stocks that have performed the best over the same period.
• According to the efficient market hypothesis, past returns should predict future returns.
• The long-run reversal effect can be explained by investors’ aversion to loss.

Q2. Which of the following investor behaviors can best explain the long-run reversal
effect?

• Aversion to ambiguity
• Reluctance to realize losses
• Overreaction
• None of the above.

Q3. Which of the following can be explained by a combination of anchoring and
overconfidence leads investors to adapt insufficiently to the arrival of new information?

• Value effect
• Momentum
• Long-run reversals
• Volatility puzzle

Q4. What is the difference between momentum and long-run reversals?

• They are essentially the same phenomenon; people call them different names.
• They both violate the weak-form market efficiency.
• They both can be explained by investors’ errors in processing information.
• Momentum can be explained by investors’ underreaction to news while long-run reversal can be explained by overreaction.

Q5. Which of the following statements describe value stocks? (Select all that apply.)

• Value stocks are characterized by a low P/E ratio.
• Value stocks are characterized by a high P/E ratio.
• Value stocks may be riskier than growth stocks.
• P/E ratio is the only scaled price measure to identify value stocks.

Week 4: Biases and Portfolio Selection

Quiz 1: Investor Behavior

Q1. Barber and Odean (2000) document that the investors with the highest portfolio turnover
earn on average seven percent those with the lowest turnover. They attribute their finding to:

• Overconfidence
• Framing
• Conservatism
• Anchoring

Q2. Which of the following is not a reasonable explanation for why investors cling to their home country with such rigor?

• Capital controls
• Narrow framing
• Information asymmetry
• Familiarity bias

Q3. Benartzi (2000) cites the case of Coca-Cola employees who allocate no less than 76% of their own discretionary contributions to Coca-Cola shares. Which of the following does not explain this behavior of Coca-Cola employees?

• Overconfidence
• Ambiguity aversion
• Risk aversion
• Familiarity

Q4. Genesove and Mayer (2001) examine the Boston downtown housing market in during the 1990s. They report that owners who may be faced with a loss (selling at a price below the one they paid for the property) tended to set prices too high. As a result of setting too high a price, these owners keep their houses too long before selling. This is an example of which effect?

• Disposition effect
• Naïve diversification
• Excessive trading
• Overconfidence

Q5. True or False. Investors tend to diversify their portfolio holdings inadequately due to home bias, which subsequently leads to lower returns.

• True
• False

Quiz 2: Applications: Investor behavior

Q1. Which of the following statements is not correct?

• Traditional finance assumes investors are risk-averse and make unbiased, utility-maximizing decisions.
• Behavioral finance tries to explain the observed investor behavior, which is not fully explained by traditional finance.
• Traditional finance assumes that investors can correctly update their expectations when they receive new information.
• Behavioral finance explains how investors should behave based on mathematical models and theories.

Q2. The behavioral
life-cycle models assume that investors classify their wealth as current
income, currently owned assets, or present value of future income. Which
of the following would explain this behavior?

• Risk aversion
• Framing
• Overconfidence
• Under-diversification

Q3. Which of the following is most likely an example of an emotional bias?

• You base decisions on only a subset of available information.
• You react impulsively to a negative earnings announcement by selling stock.
• You remain invested in a profitable technology stock even though new information indicates that PE is too high.
• You have difficulty interpreting new information.

Q4. Which of the following is most likely an example of a cognitive bias?

• You take on more and more risk because you mentally attribute your recent investing success to your strategies.
• You experience a large loss on an investment because you had hoped to recover your losses from a negative position but the position worsened.
• You end up under-diversified because you do not take a holistic approach to portfolio construction.
• You tend to naively extrapolate past returns into the future.

Q5. Which of these statements is not correct?

• The disposition effect can be explained by a desire to optimize taxes.
• Investors usually exhibit overconfidence, leading to excessive trading and underestimating the risk involved.
• Confirmation bias and self-attribution bias, which is when investors take personal credit for the success of their trades, both contribute to overconfidence.
• When investors are overconfident, portfolios become concentrated, and they reject contradictory information.

Q6. Abe Tyler and John Petersen are portfolio managers for the largest mutual fund of Corsera Financial Advisors, which provides a wide range of mutual funds for both individual and institutional investors. Abe Tyler has been a portfolio manager for more than ten years. He has experienced both bull and bear markets. Tyler hired Petersen, who served as his assistant a few years back, and while Petersen has an MBA degree from a prestigious B-school and has proved to be a quick learner, he has only been with Coursera Financial
Advisors for three years. Petersen looks up to Tyler and hopes he will learn as much as he can from him.

At the end of the day, the two usually spend time together discussing strategy as well as the latest quarterly earnings announcements for several firms in their portfolios. Despite analysts’
optimistic projections, the most recent earnings have been disappointing. Petersen states to his boss that he is not convinced that the prospects for these firms are as grim as the most recent announcements suggest.

A couple of days later, Petersen and Tyler together provide a presentation to Corsera Financial Advisors’ clients. They have invited a prominent economist, Jack Sullivan, at the local university who often provides economic commentary for national financial media outlets. Sullivan predicts an oncoming recession, stating the country is likely to enter a recession in the coming year. He recommends that the clients move their assets into investment-grade bonds and noncyclical stocks. Sullivan feels very certain of his forecasts. He adds that he has successfully predicted every downturn in the past 15 years, with the
exception one. He explains that had the Congress had not unexpectedly changed
course to increase spending, he would have been right on that one, too.

Later in the day, Tyler takes the lead and discusses with the clients the various strategies at Corsera Financial Advisors. He explains that the neglected firm/value strategy seeks firms
trading reasonable valuations with no analyst coverage. Tyler points out to academic research that indicates that these firms to outperform over a three-year horizon. Tyler states that his portfolio in particular has adopted this strategy.

Later that evening, Tyler and Petersen meet with Sullivan for dinner to discuss the day’s events. Commenting on investment strategies, Sullivan talks about his own focus on growth stocks with past six-quarter earnings growth and how he monitors his portfolio on a
quarterly basis. Sullivan also states that when the short-term moving average
rises above the long-term moving average, he takes this to be an opportune time
to trade.

Which of the following best describes Petersen’s behavior characteristics?

• Anchoring
• Framing
• Loss aversion
• Disposition effect

Q7. Abe Tyler and John Petersen are portfolio managers for the largest mutual fund of Corsera Financial Advisors, which provides a wide range of mutual funds for both individual and institutional investors. Abe Tyler has been a portfolio manager for more than ten years. He has experienced both bull and bear markets. Tyler hired Petersen, who serves as his assistant a few years back, and while Petersen has an MBA degree from a prestigious B-school and has proved to be a quick learner, he has only been with Corsera Financial Advisors for three years. Petersen looks up to Tyler and hopes he will learn as much as he can from him.

At the end of the day, the two usually spend time together discussing strategy as well as the latest quarterly earnings announcements for several firms in their portfolios. Despite analysts’ optimistic projections, the most recent earnings have been disappointing. Petersen states to his boss that he is not convinced that the prospects for these firms are as grim as the most recent announcements suggest.

A couple of days later, Petersen and Tyler
together provide a presentation to Corsera Financial Advisors’ clients. They
have invited a prominent economist, Jack Sullivan, at the local university who
often provides economic commentary for national financial media outlets. Sullivan predicts an oncoming recession,
stating the country is likely to enter a recession in the coming year. He
recommends that the clients move their assets into investment-grade bonds and
noncyclical stocks. Sullivan feels very certain of his forecasts. He adds that
he has successfully predicted every downturn in the past 15 years, with the
exception of one. He explains that if Congress had not unexpectedly changed
course to increase spending, he would have been right on that one, too.

Later in the day, Tyler takes the lead and
discusses with the clients the various strategies at Corsera Financial
Advisors. He explains that the neglected firm/value strategy seeks firms
trading reasonable valuations with no analyst coverage. Tyler points out to
academic research that indicates that these firms to outperform over a
three-year horizon. Tyler states that his portfolio in particular has adopted
this strategy.

Later that evening, Tyler and Petersen
meet with Sullivan for dinner to discuss the day’s events. Commenting on
investment strategies, Sullivan talks about his own focus on growth stocks with
past six-quarter earnings growth and how he monitors his portfolio on a
quarterly basis. Sullivan also states that when the short-term moving average
rises above the long-term moving average, he takes this to be an opportune time
to trade.

Which of the following describes
Sullivan’s behavior characteristics?

• Framing
• Anchoring
• Overconfidence
• Loss aversion

Q8. Abe Tyler and John Petersen are portfolio managers for the largest mutual fund of Corsera Financial Advisors, which provides a wide range of mutual funds for both individual and institutional investors. Abe Tyler has been a portfolio manager for more than ten years. He has experienced both bull and bear markets. Tyler has hired Petersen, who served as his assistant a few years back, and while Petersen has an MBA degree from a prestigious B-school and has proved to be a quick learner, he has only been with Corsera Financial Advisors for three years. Petersen looks up to Tyler and hopes he will learn as much as he can from him.

At the end of the day, the two usually spend time together discussing strategy as well as the latest quarterly earnings announcements for several firms in their portfolios. Despite analysts’ optimistic projections, the most recent earnings have been disappointing. Petersen states to his boss that he is not convinced that the prospects for these firms are as grim as the most recent announcements suggest.

A couple of days later, Petersen and Tyler together provide a presentation to Corsera Financial Advisors’ clients. They have invited a prominent economist, Jack Sullivan, at the local university who often provides economic commentary for national financial media outlets. Sullivan predicts an oncoming recession, stating the country is likely to enter a recession in the coming year. He recommends that the clients move their assets into investment-grade bonds and noncyclical stocks. Sullivan feels very certain of his forecasts. He adds that he has successfully predicted every downturn in the past 15 years, with the exception of one. He explains that if Congress had not unexpectedly changed course to increase spending, he would have been right on that one, too.

Later in the day, Tyler takes the lead and discusses with the clients the various strategies at Corsera Financial Advisors. He explains that the neglected firm/value strategy seeks firms trading reasonable valuations with no analyst coverage. Tyler points out to academic research that indicates that these firms to outperform over a three-year horizon. Tyler states that his portfolio in particular has adopted this strategy.

Later that evening, Tyler and Petersen meet with Sullivan for dinner to discuss the day’s events. Commenting on investment strategies, Sullivan talks about his own focus on growth stocks with past six-quarter earnings growth and how he monitors his portfolio on a quarterly basis. Sullivan also states that when the short-term moving average rises above the long-term moving average, he takes this to be an opportune time to trade.

Which of the following can be an explanation for Sullivan’s defense of his past inaccurate forecast?

• Hindsight bias
• Confirmation bias
• Self-attribution
• Representativeness

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