Question

(b) Discuss the empirical evidence on market under-reaction in the context of weak and semi-strong form efficiency.

Answer 1

Under semi strong form of market efficiency it is believed that all the privately available information have not been discounted into the prices where as publicly available information are already been discounted into the price so there is a scope for making a higher rate of return then the overall market rate of return by investment through gaining insider information which will be having access to the insider management of the company and only those people who are connected to insider people of the management can have a higher rate of return.

these concepts of semi strong form of market efficiency as per suggested by the empirical evidences suggest that there is no possibility of hedging and arbitraging because all the information have already been discounted into the stock prices and there would only be a reaction to the newly available information or insider information.

weak form of market efficiency will claim that the past price movement does not affect the stock price and it cannot be used to predict the future direction. It is used to emphasize that the future security prices are random and they are not influenced by the past events so it believes that all current information is already reflected into the stock price in past information has no relationship the current prices.

Weak form of market efficiency advocates that there is no scope for technical analysis of fundamental analysis and there could not be an excess rate of return which is to be made in the market

Empirical evidences of weak market and semi strong form of market suggest that there is a high need for reaction on the basis of newly available market information and random stock prices and there are no possibility of arbitration and hedging.