50 Part 2 Fundamental Concepts in Financial Management
controls News Corporation, arguably the largest media company in the world, of-
fered $60 per share for Dow Jones, which was then selling for about $35 per share.
Murdoch planned to change The Wall Street Journal and combine its content with
his Fox News and new! nancial channel. To Murdoch, Dow Jones’ intrinsic value
was $60. Without him or someone else who would operate the company differ-
ently, the intrinsic value was about $35. One could, of course, argue that Dow
Jones’ intrinsic value was $60 all along; but it was hard to know that until Murdoch
came along and made his offer. Alternatively, one could argue that Murdoch raised
the intrinsic value from $35 to $60. Finally, you can bet that many analysts on Wall
Street are looking for the next Dow Jones. If they succeed, they will surely beat the
market!2-7a Conclusions about Market Efficiency
As noted previously, if the stock market is ef! cient, it is a waste of time for most
people to seek bargains by analyzing published data on stocks. That follows
because if stock prices already re" ect all publicly available information, they will
be fairly priced; and a person can beat the market only with luck or inside informa-
tion. So rather than spending time and money trying to! nd undervalued stocks,
it would be better to buy an index fund designed to match the overall market as
re" ected in an index such as the S&P 500. However, if we worked for an institution
with billions of dollars, we would try to! nd undervalued stocks or companies
because even a small undervaluation would amount to a great deal of money
when investing millions rather than thousands. Also, markets are more ef! cient
for individual stocks than for entire companies; so for investors with enough capi-
tal, it does make sense to seek out badly managed companies that can be acquired
and improved. Note, though, that a number of private equity players are doing
exactly that; so the market for entire companies may soon be as ef! cient as that for
individual stocks.
However, even if markets are ef! cient and all stocks and companies are fairly
priced, an investor should still be careful when selecting stocks for his or her port-
folio. Most importantly, the portfolio should be diversi! ed, with a mix of stocks
from various industries along with some bonds and other! xed income securities.
We will discuss diversi! cation in greater detail in Chapter 8, but it is an important
consideration for most individual investors.SELF^ TEST What does it mean for a market to be “e! cient”?
Is the market for all stocks equally e! cient? Explain.
Why is it good for the economy that markets be e! cient?
Is it possible that the market for individual stocks could be highly e! cient
but the market for whole companies could be less e! cient?
What is behavioral " nance? What are the implications of behavioral " nance
for market e! ciency?