efficient-markets hypothesis

efficient-markets hypothesis

the proposition that an efficient market exists where all available information that may influence the price of a PRODUCT or FINANCIAL SECURITY is reflected in that price. This implies that there exists PERFECT COMPETITION within such a market, so that changes in the price of products or securities would only be affected by the acquisition of new information. The hypothesis suggests that because of the rapid assimilation of this new information by the market, expectations of future price changes are revised randomly about the product's or security's intrinsic value. Statisticians term such occurrences a random walk. For example, if a SHARE has an initial price of £1, the next change in price has an equal chance of being an increase or a decrease in value. If it goes up to, say, £1.10p, the next change in price has an equal chance of going up or down. The implication that STOCK and share prices follow a random walk implies that price changes are independent of one another. In practice, it is unlikely that share prices reflect all information since it is most difficult to be in possession of all necessary information, although share prices may reflect all publicly available information. See STOCK EXCHANGE.

Collins Dictionary of Economics, 4th ed. © C. Pass, B. Lowes, L. Davies 2005