Question

In considering the three supports of market efficiency - investor rationality, uncorrelated errors, and unlimited arbitrage, discuss why only one is required in order to support and maintain market efficiency? Explain whether you believe this supports market efficiency or the anomalies that have begun to surface recently. Lastly, be sure to include real-life examples supporting your observations.  

Answer 1

I think only investor rationality is important in order to support the theory of the market efficiency which advocates that all the publicly available information and privately available information have already been discounted into the stock prices and there is no scope for making an additional return through investment into stock markets.

I think if investors are rational enough they would be trying to discount the fact that every information that are meaningful to the prices of the stock, are already known to those who are interested party like insiders are always aware about various news on which they are proactively investing into the markets in order to make higher returns and other informations which where available in the past have already been discounted into the stock price so if investor is not depending upon his behavioral biases and he is acting upon his own rationality then it would be a support to the market efficient theory.

uncorrelated errors and unlimited arbitrage according to me will not be of that much importance because if there is arbitrage opportunities available in the market it will mean that prices are are not reflecting the true sentiments so I think investor nationality is one factor which will be supporting the the theory of market efficiency.

I don't think uncorrelated errors and unlimited arbitrage opportunities are supporting the theory of market efficiency because they will be acting upon the discrepancies of information with the price to make an additional rate of return.

If I had to include real life example, I would be including various stocks when they are getting any turnaround news are always supported by buying of their management and insiders because they are aware of the turn around and they are investing into the company like in Indian markets, insiders are taking exposure into Reliance jio before the stake sale was announced.