The Tests For Market Efficiency Essay

2337 words - 9 pages

During the 20th century, academic financial economists extensively accepted the efficient market hypothesis. Almost everyone was alleged that stock markets and securities market are highly efficient in response to any new information in the market. It was argued that when information regarding factors influencing market arises, the information spread like wild fire in the market and the prices of stocks adjust accordingly without any delay. This means that neither the fundamental analysis related to analysis of financial information of the company such as earnings, capital stock etc nor the technical analysis related to the analysis of historical performance of the stocks of the company enables the investor either experienced or not to get return over and above the average return of the market by holding any portfolio of stocks with average market risk.
A random walk and efficient market hypothesis are associated because random walk is a term often used in the literature of finance which argues that the further price change in the stocks is independent of any pattern based on the historical trend of price change. The logic behind random walk idea is that the change in the price of stock in any trading session is based on the information available in the market and price change in the next trading session is independent of the change price change in the previous session due to the reason that the next day change in price reflects the impact of information available to them. It is also important to note in consideration to random walk idea is that the information is unpredictable so the change in the stock price is also unpredictable. This means that the change in price of stock during any trading session fully reflects the impact of available information so every investor either it is informed of information or not get return equal to the average return of the market. In some journal an interesting example related to the idea of random walk is that random walk is like a blindfolded chimpanzee throwing darts at Wall Street and selects any portfolio which yields equal to the portfolio selected by any expert. The idea of random walk is just like throwing a towel on the stock of different category to formulate an appropriate portfolio at lower cost.
Most of the investors try to select the securities which are mis-priced undervalued due to the reason that in future price of these securities will increase and they are able to outperform the market. The portfolio managers identify the securities which are able to outperform the market and they use variety of different techniques to predict the performance of the securities and stock. The financial analysis gives comparative advantage to the investors which results in substantial profits. The efficient market hypothesis argues that any technique is not capable to generate excess due to dependable predictability of stock and securities return. The efficient market hypothesis argues that it is very...

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