Suppose that the following environment holds: rt = µ + et with E[et |It-1] = 0, E[et2 ] = σ2e and where rt+1 = ln(Pt+1/P

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Suppose that the following environment holds: rt = µ +
et with E[et |It-1] = 0,
E[et2 ] = σ2e and where
rt+1 = ln(Pt+1/Pt) ≡
pt+1 − pt . We also let rt,t+2 =
ln(Pt+2/Pt) ≡ pt+2 − pt
denote the 2-period continuously compounded returns. (i) Are the
rt’s serially correlated?. (ii) Are the
rt,t+2's serially correlated?. (iii) Using your
answers to (i) and (ii) briefly highlight the dangers of using
long-horizon returns for assessing the weak form of the efficient
markets hypothesis.