CA Final · Advanced Financial Management · Security Analysis
Shares of Kaveri Motors trade at Rs 500. On 10 March the company unexpectedly announces a buyback and the price immediately jumps to Rs 540 and stays there over the next several days, with no further drift. Later it is found that the market had a normal expected return of 1% over the event window for this stock. Assuming the whole move occurred in the announcement window, what is the abnormal return, and what does the pattern indicate?
The abnormal return is 7%, being the actual 8% rise from Rs 500 to Rs 540 less the 1% normal return. Because the price adjusted at once and did not drift afterwards, public news was absorbed quickly, which is consistent with semi-strong form efficiency.
- A7%; consistent with semi-strong form efficiency because price adjusted immediately with no driftCorrect
- B8%; consistent with weak form efficiency only because price drifted afterwards
- C7%; consistent with semi-strong inefficiency because price moved on public news
- D9%; consistent with strong form efficiency because price moved before the announcement
Explanation
Actual return = (540-500)/500 = 8%. Abnormal return = 8% - 1% expected = 7%. Immediate full adjustment with no later drift shows public information was impounded quickly, consistent with semi-strong efficiency. Option 8% ignores the expected return, and a price move on news is not itself evidence of inefficiency.
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