Efficient market theory


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Efficient Market Theory

A controversial model on how markets work. It states that the market efficiently deals with all information on a given security and reflects it in the price immediately. The model holds that technical analysis, fundamental analysis, and any speculative investing based on them are useless. The model has three forms: weak efficiency, which holds that technical analysis is ineffective, semi-strong efficiency, which holds that fundamental analysis is ineffective, and strong efficiency, which states that even insider information is immediately reflected in the security prices. Investors and academics disagree on how well the model works.

Efficient market theory.

Proponents of the efficient market theory believe that a stock's current price accurately reflects what investors know about the stock.

They also maintain that you can't predict a stock's future price based on its past performance. Their conclusion, which is contested by other experts, is that it's not possible for an individual or institutional investor to outperform the market as a whole.

Index funds, which are designed to match, rather than beat, the performance of a particular market segment, are in part an outgrowth of efficient market theory.

References in periodicals archive ?
The literature offers a wealth of evidence both supporting and contradicting efficient market theory.
Many less precise discussions of the efficient market theory equate the theory with the property that speculative price changes exhibit a random walk around the fair expected return.
The semi-strong form of efficient market theory states that all public information is reflected in stock prices.
Thus, let us drop the unrealistic assumption made earlier that informed investors can keep prices at the level predicted by efficient market theory.
The efficient market theory, developed in the finance literature, suggests that the future benefits expected from current, ordinary business activities will be incorporated into the current market price (CMP) of the common stock of the corporation, and will be equivalent to the present value of future cash flows resulting from the expected benefits of these current activities.
Consider the existing academic research dealing with anomalies, or occurrences that are inconsistent with efficient market theory.
He wrote a number of influential books on a wide range of topics, including Capital Ideas on the efficient market theory (1991), Against the Gods: the Remarkable Story of Risk (1996), and Wedding of the Waters: The Erie Canal and the Making of a Great Nation (2005).
By explicitly embracing efficient market theory and abandoning the false hope of beating the market, a fund can improve its performance.

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