Investors have different ways of doing business. Some prefer to invest their money in high risky portfolios and some in less risky portfolios. Therefore, some analysts are still investing in the market and are making lots of profits. So the theory is incorrect.
Myth 3: EMH claims that new information is fully reflected in market prices.
This is false as prices keep on fluctuating all the time.
Myth 4: EMH presumes that all investors have to be skilled and informed and are able to analyze new information.
This statement is not correct as not all investors have to be informed. Infact, market efficiency can still be achieved even if a small number of informed and skilled workers trade in the market, while the majority does not follow the securities they trade.
Evidence for weak-form efficiency
According to the Random walk model, it is said that one cannot predict security prices; therefore in the future also one cannot be sure of what will happen of the prices. A study done by Kendall (1953) noted that the prices of securities change over time.
Evidence for semi-strong form efficiency
The research done by Fama which investigated on how share prices react to information about share splits and it was concluded that the market was efficient to absorb the information of share prices and therefore investors were not able to use the information for their benefits.
Evidence for strong-form efficiency
Since insider information is unknown, it is impossible to test the strong-form efficiency hence average returns on the stock market is needed to test the theory. Managers who have funds are considered normally to make abnormal profit which is not the case. Furthermore, a research done by Keown and Pinkerton (1981) concluded that the insider information prevents the investors to make abnormal returns.
Evidence against strong-form efficiency
Based on the evidence for and against the EMH, one cannot accept this theory. The evidence supports the weak-form efficient market, therefore in the strong form market, inefficiencies of markets occur because of large stock portfolios that have been created over the years by informed and talented investors.
However, it can be argued that the capital markets are not strong-form efficient because some individuals gain access to information before investors and this result in abnormal gains using the 'insider information'. Although studies support a strong-form efficient market, there are quite a few controversial issues against investors for the offence of insider dealing, which the market can be exploited by such information. However, the investors continue to use the information of insider dealing to gain higher returns.
Moreover, the share price behavior cannot be avoided, as it is a very challenging issue to the efficient market theory. However, some do not prefer a strong-form efficient and for them it may not exist because of the illegal act of 'insider dealing'. It is obvious that 'insider information' is still being used in secret by investors to make higher returns.
Evidence against weak-form efficiency
Despite the evidence that support the weak-form efficient market model, financial analysts argue that a technical analysis of past share prices can be used to establish a relationship between past and future share prices. Historical price movements are used to show the trends of prices in the past.
Chartism is the technique used to analyse past data, it uses charts to identify the future movement of share prices using past information such as the behaviour of share price. There is a trend namely the 'head and shoulders' pattern where the chart resembles the upper part of a human body and this indicates that it is the most reliable trend-reversal pattern. However, there are other trend patterns which were developed over the years, for example, cup and handle, double top and double bottom.
Furthermore, in today's world, there has been the development of popularized sophisticated computer software which is used in the stock market.
Evidence against semi-strong form efficiency
Financial analysts has challenged the model and performed an important analysis to approximate the real value of shares using future returns. The comparison between the estimation and the market price is done to know if the prices have been undervalued or overvalued. Another study is the 'value investing' concept, which states that investors who invest in shares with a low price earnings ratio lead to abnormal gains.
Even if there are evidence that support the semi-strong efficient theory, the evidence is not that strong enough to avoid the fact that the market was dominated such investors as Warren Buffet and John Neff.
Furthermore, there are investors like Warren Buffett, the most successful investor, who has invested in firms and has made higher returns in the US market whereas John Neff argued that invest in shares with a low price earnings ratio.
Moreover, it is said that UK and USA had weak form efficiency in the past as their stock prices change randomly. Further investigations are made and it was concluded that UK's economy was semi-strong efficient.
Abstract
The efficient market said that the financial markets are efficient. However, by doing this assignment we have noticed that this is not the case in some markets as by doing research on the forms of efficient market hypothesis, we have concluded that not all countries have strong-form, weak-form and semi-strong efficient markets. No real market can be efficient as the assumptions are false, thus the theory is not true in some sense. But some believe that the theory is a good one.
CONCLUSIONS
All investors want to achieve the highest possible returns. However, this is not as easy as they think because the conditions in the EMH theory do not happen in reality in today's markets. So, investors need to know how to do business and when to invest to gain maximum return.
Although no theory is perfect, some investors still support the theory of EMH. Some still agree that markets are efficient and some say is it inefficient. But investors cannot rely on this theory as anything can happen in a market and they should be prepared of ups and downs in the market.
