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Fundamentals of Financial Manageme...

14th Edition
Eugene F. Brigham + 1 other
ISBN: 9781285867977

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BuyFindarrow_forward

Fundamentals of Financial Manageme...

14th Edition
Eugene F. Brigham + 1 other
ISBN: 9781285867977
Textbook Problem

If a stock is not in equilibrium, explain how financial markets adjust to bring it into equilibrium.

Summary Introduction

To explain: The adjustment made in the financial markets to bring the stock at equilibrium.

Introduction:

Stock:

Stock is an asset for the investors and a liability for the company. A stock is a kind of investment made by the investors, who want to get more returns. An investor holds the ownership right after the purchase of a stock of the respective company.

Explanation

The adjustments made in the financial markets to bring the stock at equilibrium are as follows,

  • The individual investor always wants the situation to be beneficial.. When the expected return is greater than the required rate of return on a stock and the intrinsic value of the stock as decided by the investor are more than the market price, then the investor by seeing these two effects, starts purchasing the stocks from the market.
  • Sometimes there is a contradiction in the view of the individual investor, they think opposite. In opposite view, they start selling the stock in stock market.
  • So, to bring the stock at equilibrium there should be a proper check on the buying and selling of stock.

The two conditions that must be hold for stock equilibrium is,

  • The expected rate of return of a stock, expected by the investor should always be equals to the required rate of return, r^i=ri

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