i have few questions. can someone give me some idea about this:
1. In view of the fact that the market is efficient in the semi strong form, there is no value to investors in companies publishing accounting reports, because the information is already impounded in share price before that information is published. Please help me to explain this..
2. What are stock market anomalies? Why they are important in relation to stock market efficiency theory?
3. ‘The shares of ABC are under priced at the moment’. Comment on the validity of this statement.
August 31st, 2009 at 10:49 pm
The semi-strong form of efficient makret theory (EMT) states that there is no added benefit from looking at past prices or information. The market already knows the information and it is built into the price.
The value of any financial information is solely due to the expected reward it will yield. If the market already knows all past accounting records then what value is an accounting report? On a personal level, you may feel that it is interesting and may therefore pay to view it. But to the market, there is no value. It has already seen the information. Looking at the report will not in any way provide an edge for future profits. If you do buy the stock and make money, it is not from reading the report; instead, it is from new information that arrived after reading it that happened to move the stock in your favor.
An easier illustration is this: How much would you pay me to know yesterday’s closing price on IBM? What about for the day before? If you answered nothing (as you should) then what value is a chart showing all of the closing prices (and all intra-day prices)? What value is an accounting report with old information? If you can understand that example, you can see the validity of semi-strong EMH.
2. Stock market anomalies are things that seem to go against the EMH. For example, the Value Line anomoly was a long-standing one where investors seemed to gain “excess returns” by following the Value Line ranking system. Although it was old information, investors acting on it seemed to make returns in excess of the risk they were taking. However, even that is being challenged now. Like most anomalies, they are eventually factored into the prices — and the EMH eventually returns.
3. If ABC shares are “underpriced” that is simply an opinion from one person or a group of people. It is not the market’s opinion. The market price is the collective market opinion of the stock’s value. That’s one of the functions of the market is to provide price transparency. Anyone saying it is underpriced (or overpriced for that matter) is simply disagreeing with the entire market.
Are home values underpriced now? Is gas overpriced? The answer is no. The market prices are the market prices. You may feel that they will rise or fall to certain levels in the future but that is your opinion. It does not make today’s price incorrect.