82. The Efficient Market Hypothesis and Investment
We have discussed three forms of market efficiency: weak, semi-strong,
and strong. What are the implications of the efficient market hypothesis
when applied to the real world?
An investor can use technical analysis, which relies on historical data
about stock prices to predict future prices. For example, she may create
charts of historic prices to determine that the price of ABC Corp. should be
20,000 dong/share. She would make money if the current price is less or
more than the predicted price. However, according to the weak form
efficiency model, the current prices reflect all historical information,
preventing our investor from beating the market by identifying under- or
overvalued securities.
Another investor may employ fundamental analysis, by analyzing all
public information about ABC Corp. to derive the value of its securities.
However, in a market that exhibits semi-strong form efficiency, the price
already reflects all public information, thereby foiling any potential to
realize above normal returns. Under this form, then, only with inside, that is
material nonpublic information, can an investor earn above normal returns.
An investor may hope to rely on inside information to earn extra profits.
An example of such information would be advance knowledge that ABC
Corp. was experiencing financial difficulty. Yet if the market adhered to
strong form efficiency, the investor would fail to beat the market because it
would already have reacted to the information. No matter how much
information she possesses, under this model the investor will never achieve
above average returns.
Any form of efficient market is crucial to creating fairness and
confidence in the market and helps the market develop. However, a small,
