The Efficient Market Hypothesis (EMH)

Superior Essays
The efficient market hypothesis (EMH) is widely used to analyse the financial market and security prices. The EMH is efficient if public information is totally reflected by asset prices (Malkiel, 2003, p.59). Malkiel (2003, p.59) implies that information of stock market was exactly shown by security market. In the last ten years, the EMH had significant effect on the financial market. This essay aims to show the three main types of the EMH and analyses if the EMH works in the real market economy. This essay will explain the meaning of three efficient market forms. It will then analyse the implication of the EMH. Finally, it will discuss the challenges of the EMH.

The efficient capital market is the market which totally shows the truth factors
…show more content…
The first one is about accounting choice. Hillier et al. (2012, p.371) imply that each company wants to have a high trade price instead of a low trade price. The EMH delivers the correct market information to investors. In efficient market, accountants can make accounting choices accurately. Besides, EMH make the timing decision more correctly. If the market is efficient market, managers can predict trend of stock market and then catch suitable opportunity to decide what they should do (Hillier et al., 2012, p.372). This means that right market timing could be chosen by investors. Another advantage is that investors do not need to waste time to decide which is better to choose. Hillier et al. (2012, p.374) stress that people should not try to predict the changeable interest rates and foreign currency, because it is impossible to immediately make a choice. If they catch the opportunity and do some valuable actions, it is more useful for them to increase return. Finally, if the market is effective, all of the goals can be achieved. The strong form efficient market reflects both public and private information including information in market prices (Brealey et al., 2013, p.325). If the information is effective used by managers when making decisions, they may get more useful messages to strengthen the administration of an enterprise. The evidence seems to be strong that the EMH is useful for manager to manage …show more content…
In some situations, it does not make sense. Firstly, people are not always rational. Many investors do not pay attention to diverse ways of investment, some of them are not always stay in the same level, and some of them sell the good stocks but hold bad stocks. This may make them have more tax to pay (Hillier et al., 2012, p.364). In the efficient market hypothesis, investor could recognise the change of information quickly, but in real life, that may be not true. The opposite is the case. After getting new information, people usually observe change of the security prices, then take measures. Investors prefer to believe the old information rather than recognise the new information (Hillier et al., 2012, p.364). The EMH thinks investor can know about information immediately and correctly, but every investor have their own opinions, maybe they are influenced by their own views and make the incorrect

Related Documents

  • Superior Essays

    The balance sheet approach measured by fair value accounting can provide more relevant and reality information to users while the income statement approach cannot provide irrelevant information for decision making. Though historical cost accounting can provides more reliable and verifiable information for users based on actual transactions, Fair value accounting is based on current market and reflects value changes in the market and this provides information for investors to predict future and to make decisions. Moreover, transparency increased by reflecting current market. The limitations of historical cost accounting, including allocated problem and conservatism, reduce the usefulness of information to users. Historical cost accounting provide information about how well or badly managements do their duty to shareholders.…

    • 1161 Words
    • 5 Pages
    Superior Essays
  • Improved Essays

    A portfolio chosen randomly might as well achieve higher returns than a portfolio wisely selected. An investor cannot earn abnormal profit by using information relevant to the stock. Even professional investors are unable to outperform the market (Shiller (2015), p.197). The concept of the EMH is that if there were any arbitrage opportunities available, they would already be taken as there are constantly active managers searching for mispriced stocks, which in the end results in the markets being efficient. This theory assumes that all investors act form rational…

    • 1001 Words
    • 5 Pages
    Improved Essays
  • Improved Essays

    But it can limit our downside by averaging out risk and volatility across a group of investments. It can limit our upside too. As our level of utilizing portfolio increases, our returns will be more likely to mimic the market average. Furthermore, when we invest on the risky projects or don’t know clearly, the risk is possibly occur. For instance, an investor who lacks exposure to pharmaceutical firms, hedge funds, and knows nothings easily makes a mistake and cannot take advantages from utilizing portfolio.…

    • 825 Words
    • 4 Pages
    Improved Essays
  • Improved Essays

    “It’s the classic financial puzzle: how to balance risks and returns” (Larry Light, 2013). For our simulation, we agree to go with high return/risk policy. We run an efficient…

    • 1060 Words
    • 4 Pages
    Improved Essays
  • Improved Essays

    In a capital market, it is important to have useful financial information to allow investors to make decisions. Financial information must be consistent and transparent. Being transparent allows investors, creditors and the market to properly evaluate a business entity. Having it transparent and easy to understand is to increase the confidence of markets fairness and the companies to use to evaluate the effectiveness of management and to make the right decision when a problem may arrive. This is…

    • 1619 Words
    • 7 Pages
    Improved Essays
  • Improved Essays

    First and foremost, FVA provides more relevant and timely information to the FS users, thus increasing the transparency of FS disclosure. FVA uses market selling price which are determined in competitive markets to measure the firm’s financial performance rather than based on historical cost. This allows shareholders to have a direct insight on the current value of the firm. Indeed, it provides relevant and latest financial information which reflect value and true economic substance to the FS users and functions like an early warning mechanism, allowing investors to exercise market discipline the earliest possible. When the FS’s transparency increases, market is said to be efficient, achieving semi strong form of EMH whereby company’s share price not only reflect historical information, but also all published information.…

    • 969 Words
    • 4 Pages
    Improved Essays
  • Great Essays

    Moreover, smooth earnings ease the analyst’s task of predicting future earnings. From CFO opinion one can assess that income smoothing, an earnings management technique, is within the realm of good business practice. Corporations globally are operating during a time period that is both highly regulated, and highly scrutinized, and must tread lightly. There may never be a time that we can clearly differentiate between a company fraudulently manipulating their earnings and participating in good business practice. Speculations should rise when a CEO is being compensated very highly with stock options.…

    • 803 Words
    • 4 Pages
    Great Essays
  • Improved Essays

    They use all available information to determine the fair value of the firm and predict the future performance. The feedback provided is valuable and sometimes highlights significant issues like earnings management or even fraud. Analyst are more like to detect management fraud than the external accounting firm that audited the firms’ statements. Internal or external analyst assess the accuracy of the forecast provided by the management. In well-established investor markets analyst will closely follow a firm’s performance.…

    • 718 Words
    • 3 Pages
    Improved Essays
  • Improved Essays

    Efficient Capital Market

    • 1018 Words
    • 5 Pages

    As a result, there are different price movements, which tend toward the present value of the cash flows in the future. The same information can also be availed at cheaper rates due to the presence of many organized markets and other technological innovations. A capital market maybe called efficient when the information can be incorporated quickly and the prices of stock can be stated accurately (Fama, (n.d). When the capital market is weak, then the information about the history of past returns ad prices are indicated in the prices of the securities. This information is not very helpful for the stockowners as they are not able to judge the information correctly and additionally the fluctuation of the stock cannot also be predicted remotely.…

    • 1018 Words
    • 5 Pages
    Improved Essays
  • Great Essays

    CAPM assumes that companies hold diversified risk in the capital structure. Therefore, it assumes company generate systematic risk and return. Therefore, CAPM enables companies to determine the most optimum capital structure complying with the existing dynamic environment. Β value of CAPM formula determines the risk level compared to the market risk. When the risk is higher compared to the market value, the return each stock grants to its stockholders will be higher (Çelik, 2012 ).…

    • 1544 Words
    • 7 Pages
    Great Essays