Lecture 20 - Click to edit Master subtitle style Prof Irvine FINA 4310 Prof Irvine FINA 4310 Market Efficiency or not 1 Efficient markets 2

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Unformatted text preview: Click to edit Master subtitle style Prof Irvine FINA 4310 Prof Irvine FINA 4310 Market Efficiency or not? 1) Efficient markets 2) Haugen’s critique of efficient markets Prof Irvine FINA 4310 Prof Irvine FINA 4310 Rational markets? Prof Irvine FINA 4310 Prof Irvine FINA 4310 Efficient Markets Hypothesis l ‘Available information is in the price’ l Why? £ Suppose you have information about future prices or dividends £ If market price is not equal to the PV: ¢ sell short if the stock overvalued ¢ buy if stock is undervalued £ Market price will be driven to PV Prof Irvine FINA 4310 Prof Irvine FINA 4310 Patterns and profit opportunities are driven away by trading Prof Irvine FINA 4310 Prof Irvine FINA 4310 Consequences of EMH l Information about past events cannot be used to predict changes of stock prices l Actual returns reflect the arrival of new information l The best predictor of tomorrow’s stock price is today’s stock price plus the risk premium (random walk hypothesis) Prof Irvine FINA 4310 Prof Irvine FINA 4310 l Random Walk - stock prices are random £ Can have a random walk around a trend ¢ Expected price is positive over time ¢ Positive trend and random about the trend l On a day-to-day basis the expected change in the price is close to zero. £ So you can have a random walk around a trend, but the trend does not help much with stock price predictability. Random Walk and the EMH Prof Irvine FINA 4310 Prof Irvine FINA 4310 Security Prices Time Random Walk with Positive Trend Prof Irvine FINA 4310 Prof Irvine FINA 4310 EMH and Competition l Stock prices fully and accurately reflect available information l Once information becomes available, market participants analyze it l Competition assures prices reflect information £ Hedge funds are very efficient at exploiting any small inefficiencies Prof Irvine FINA 4310 Prof Irvine FINA 4310 Types of Stock Analysis l Technical Analysis - using prices and volume information to predict future prices £ Reject if Weak form efficiency & technical analysis l Fundamental Analysis - using economic and accounting information to predict stock prices £ Reject if Semi strong form efficiency & fundamental analysis Prof Irvine FINA 4310 Prof Irvine FINA 4310 Weak-Form EMH l Information in past market data doesn’t predict returns: £ prices £ returns £ volume l Implies that technical analysis (charts) is useless Prof Irvine FINA 4310 Prof Irvine FINA 4310 SYNO Moving Average Prof Irvine FINA 4310 Prof Irvine FINA 4310 Semistrong-Form EMH l Information in publicly available, non-market data doesn’t predict returns: £ financial statement data £ market conditions l Implies that fundamental analysis is useless Prof Irvine FINA 4310 Prof Irvine FINA 4310 Hard to capture profits from analysts’ recommendation changes: Prof Irvine FINA 4310 Prof Irvine FINA 4310 Validity of Semistrong-Form l Fundamental analysis requires skill...
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This note was uploaded on 06/05/2011 for the course FINA 4310 taught by Professor Staff during the Fall '08 term at University of Georgia Athens.

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Lecture 20 - Click to edit Master subtitle style Prof Irvine FINA 4310 Prof Irvine FINA 4310 Market Efficiency or not 1 Efficient markets 2

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