Importance of efficient market hypothesis can be identified from empirical implications of it in many pieces of research and studies by empirical researchers. Literature on efficient market hypothesis before LeRoy (1973) and Lucas (1978) was evolved around the random walk hypothesis and magnitude model. These are statistical description of price changes that can be Lo and McKinley (1988) forecasted and initially taken to be implication efficient market hypothesis. The first test of random walk hypothesis was developed by Jones and Cowles (1973), and they compared frequency sequence and reversal in historical return of stocks. They identified same sign of former pairs of consecutive return and the opposite sign of latter pair of consecutive return. Osborne (1959), Fama (1963; 1965), Cootner (1962; 1964), Fama and Blume (1966) conducted tests of random walk hypothesis and supported previous studies of random walk hypothesis using historical stock return. Lo and McKinley (1988) reported that variance of two week stock return is double the variance of one week stock return. They conducted this test on US indexes from 1962 to 1985. French and Roll (1985) identified from their study that variance of stock return over weekends and holidays are much lower than variance of week days, especially first three weekdays of a week. Poterba and Summers (1988) and Fama and French (1988) found out negative correlation in US stocks indexes return from stock return data of 1962 to 1986 actually occurs....
In the process they use different forecasting techniques as well as some valuation methods. The combination of the techniques helps them in their decisions regarding investments. However, the hypothesis states that the techniques are not effective and no one has the capability to predict the outperformance of the market. If the investors enjoy any advantage, it is supposed not to exceed the incurred cost of transaction and research (Timmermann, & Granger, 2003, p.5). Literature review The origin of efficient market hypothesis can be traced back in the studies of two individuals in 1950s. One is Paul A. Samuelson and the other one is Eugene F. Fama. They identified the notion of market efficiency from two different research agendas. Samuelsson’s contribution in the invention of EMH was great, and the researcher summarized that in efficient market, changes in asset (stocks, bonds and other traded instruments) price can be forecasted if these are properly anticipated. This means price should fully incorporate all the information and expectation of all the market participants. In contrast to Samuelsson, Fama concentrated on statistical measures of stock price and resolving the debate regarding technical analysis and fundamental analysis of stock price. This researcher summarized that current price stocks fully reflect all information available to market participants. These two empirical research studies on this critical area of finance have helped many researchers thereafter to develop several econometric single or multifactor linear asset pricing models (Seweel, 2011, p.4). Random walk hypothesis Importance of efficient market hypothesis can be identified from empirical implications of it in many pieces of research and studies by empirical researchers.
This paper “Efficient Market Hypothesis” deals with one of the most important areas of behavioural finance, the efficient market hypothesis. Objective of this study is to critically examine different forms of efficient market efficiency…
Efficient market hypothesis stipulates that the prices of stocks in the money markets represent summation of all probabilities of all future consequences. The information available in the public domain is assumed to reflect stock prices in the money markets.
Related to these practices is the understanding that their occurrence is directly connected to the regulatory environment that allowed for their occurrence. The drastic deregulation that occurred during this period is in part linked to a theoretical belief in market efficiency, as policymakers have been accused of having too great a faith that the market would undergo self-correcting behavior.
The author explains that the banks granted loans assuming that markets were efficient while overlooking the underlying risk. The financial crisis of 2007-2012 highlighted the redundancy of efficient market theory as an explanation of the financial decisions. This statement has been evaluated with the help of the following course of events.
Basu illuminates that "in an Efficient Capital Market security prices fully reflect available information in a rapid and unbiased fashion" (1977, p663) This suggests that stock price, at a specific moment, reflects all the information that is available and the events that are announced.
The efficient markets hypothesis forms the basis for one of today’s major theories of the trading and valuation of financial instruments such as corporate stocks and bonds, as well as many other forms of equity or debt. It is vital for investors, traders, analysts,and others dealing with such instruments to understand how their values are determined.
The response was emanated from the different governments rather than from the market itself as many governments including US and UK governments injected money into the system to safeguard it from complete
According to the theory of Efficient Market Hypothesis, stocks are always traded on fair market value in the stock exchange market and so it makes it almost impossible to either sell their stocks for overstated prices or buy stocks at undervalued prices. As such, it
This paper presents a critical analysis on the validity of Efficient Market Hypothesis strong form based on existing evidence. Primary evidence shows that the initial confidence of the concept of Efficient Market Hypothesis is misplaced. Efficient Market Hypothesis based financial equilibrium models do not depict the actual trading operations.
The author of the paper states that the efficient market hypothesis proposes that assets in financial markets are priced after taking all the public information available into account. This means that people might not be able to earn abnormal profit consistently for a long period of time.