Question

a. The concept of “efficient market hypothesis” has attracted a lot of debate and controversy in modern finance. As a student of finance, what critical issues would you say you have learnt about market efficiency using capital market history as your reference point?

Answer 1

Efficient market hypothesis advocates that there is an efficiency which exist in the market and the price of the securities already reflect those available information whether it is private or public information, according to the degree of efficiency of the market.

Critical issues regarding efficient market theory would be-

A. Weather the privately available information and publicly available information are already discounted into the price or not.

B. Market efficiency always advocates passive form of investment as it reflects that an investor can never beat the market rate of return which is reflected by the major index.

C. It also advocates that various type of analysis like fundamental analysis and technical analysis are not relevant because they would not help in making excessive return in an efficient market.

D. It also provides an idea that market will only react to newly available information because all such past information have already been discounted and reflecting into the price.

E. There is a flexibility regarding the degree of efficiency in different market because it have been defined according to the various factors which are generally private or public and technical analysis or fundamental analysis.

F. it always assumes that investors are rational and they will always make rational decisions and Markets are always efficient in nature which is not the case in reality as investors are driven by a lot of emotional consent and Markets are never efficient completely.

G. it doesn't account for any fraudulent practices and discounting of those informations into the share price but in actual there are a lot of fraudulent practices adopted by company to include the price.

H. There is a special case about earnings reflection through post earning announcement drift which is a direct contradiction of semi strong form of market.

These are the various lessons I have derived with relation to market efficiency which is existent in the current modern economic scenario as markets are not fully efficient.