Professional Documents
Culture Documents
Chapter 4
Chapter 4
Chapter 4
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Alternative efficient market Hypothesis
Semi-strong form efficient market hypothesis
» It asserts that security prices adjust rapidly to the release of all public
information
» This hypothesis implies that investors who base their decisions on any
important new information after it is public should not derive above
average risk adjusted profits
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Alternative efficient market Hypothesis
Strong Form Efficient Market Hypothesis
» It contends that stock prices fully reflect all information from public
and private sources
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Test and Results of EMH
Weak Form Hypothesis: Test and Results
» Researchers have formulated two groups of test for this hypothesis
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Test and Results of EMH
Semi Strong Form Hypothesis Test and results
– Event studies examine how fast stock prices adjust to specific economic
events
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Test and Results of EMH
Anomalies for Semi-strong EMH
Quarterly earnings reports :Studies that address quarterly reports are considered
part of the times-series analysis. Specifically, these studies examine whether it is
possible to predict future individual stock returns based on publicly available
information on changes in quarterly earnings that differed from expectations.
The January Anomaly : The January Anomaly is the tendency for stock prices to
rise in the first month of the year following a year-end sell-off for tax purposes.
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Price to Earnings Ratio is the ratio of a company's share price to the company's
earnings per share. The ratio is used for valuing companies and to find out whether they
are overvalued or undervalued. A high P/E ratio could mean that a company's stock is
overvalued, or else that investors are expecting high growth rates in the future .
The size effect tells that the returns of small firms are significantly larger than returns
of larger firms.
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The neglected firm effect: The companies that are followed by fewer analysts
will earn higher returns on average than companies that are followed by many analysts.
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Test and Results of EMH
Strong Form Hypothesis: Test and Results
Corporate Insiders: Corporate insiders are required to report monthly to the SEC
on their transactions (purchases or sales) in the stock of the firm for which they are
insiders.
Security Analysts: set of analysts who have the ability to select undervalued stocks.
Performance of professional money managers: The studies of professional
money managers are more realistic and widely applicable than the analysis of insiders
because money managers typically do not have monopolistic access to important new
information but are highly trained professionals who work full time at investment
management. Therefore, if any “normal” set of investors should be able to derive above-
average profits, it should be this group.
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Implications of EMH & Anomalies
Efficient Markets and Technical Analysis: The EMH indicates that
technical analysis should be of no value.
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