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Market efficiency - Assignment Example

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Market efficiency

Private market efficiency refers to the measure of access to information that market players can use to maximize their gains on investment at a minimum transaction cost (Jarrow & Larsson , 2011). Market efficiency widely known as the Efficient market Hypothesis (EMH) and introduced by Eugene Fama in 1970 stresses that market prices is a reflection of all the available information to the investors regarding a particular stock at a particular time of trading. According to Fama‘s interpretation of an efficient market is a situation were no individual investor has an advantage over others in predicting excess returns on securities above the existing market price (Jayasuriya, 2008). This claim is based on the premise that at any given time no one will have information over and above what is available to other players. The information necessary to make judgment is often readily available to all players at the time of trading and for this reason no individual player can beat the market. Valuation of investment is the main determinant of whether a market is efficient or not and where the inefficiencies are evident. An efficient market can be determined through market prices considering that it is only estimate for measuring deviation from true value (“Market Efficiency”, 2011). This is because an inefficient market will only be determined by market price deviation from the true value. Efficient market must be supported by a number of conditions most of which revolved around valuation and information availability for it to take place. The is means that information and market prices are integral components of market efficiencies consider that investors make investment strategies based on the information they have assuming that at a given time traded assets(s) are under or overvalued (Yang & Leatham, 1998). The market prices in an efficient market are often unbiased estimate of the asset’s true value and they are expected to shift randomly depending on the behavior of the investors. Investors play a significant role in bringing efficiency in private markets considering their diverse reaction to available information. A number of conditions need to take place in the private market place in order for efficiency to be achieved. In other words, market efficiency does not happen automatically as certain forces drive it. The first condition is the existence of profit maximization investors (“Market Efficiency”, 2011). Investors will always try to take advantage of every opportunity that comes their way to make profits. This is often based on the perception of the investors that the market is inefficient and one can leverage on the inefficiencies to beat the market. In other words, the investors must recognize the potential for bigger returns, replicate their beat the market strategies and invest their resources repeatedly until the end of inefficiency (Lee, etal, 2009). The more the investors continue to actively participate in trading activities the more likely they create market efficiency. For instance continuous sale and purchase of stocks will always have a double edged impact considering that market prices can be pushed above or below fair value at every point in time. This makes it very difficult a single or a group of investors to predict the existing undervalued stocks irrespective of the applied investment strategy. The timing and nature of the information available to the investors is also another important condition for achieving market efficiency. Information availability is an integral part of market efficiency considering that an efficient market is defined based on the kind of information that is reflected on the price and available to the investors. Take for instance a strong form efficiency which is exudes that under such a circumstance an investor with insider information will not be able to make excess gains over other because the market prices reflects all the information both private and public. It is noteworthy that market efficiency ...Show more


Private market efficiency refers to the measure of access to information that market players can use to maximize their gains on investment at a minimum transaction cost.Market efficiency widely known as the Efficient market Hypothesis and introduced by Eugene Fama in 1970 stresses that market prices is a reflection of all the available information …
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