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The Efficient Market Theory and Evidence: Implications for Active Investment Management

99 Pages Posted: 29 Feb 2012  

Andrew Ang

BlackRock, Inc

William N. Goetzmann

Yale School of Management - International Center for Finance; National Bureau of Economic Research (NBER)

Stephen M. Schaefer

London Business School - Institute of Finance and Accounting

Date Written: February, 29 2012

Abstract

The Efficient Market Hypothesis (EMH) asserts that, at all times, the price of a security reflects all available information about its fundamental value. The implication of the EMH for investors is that, to the extent that speculative trading is costly, speculation must be a loser’s game. Hence, under the EMH, a passive strategy is bound eventually to beat a strategy that uses active management, where active management is characterized as trading that seeks to exploit mispriced assets relative to a risk-adjusted benchmark. The EMH has been refined over the past several decades to reflect the realism of the marketplace, including costly information, transactions costs, financing, agency costs, and other real-world frictions. The most recent expressions of the EMH thus allow a role for arbitrageurs in the market who may profit from their comparative advantages. These advantages may include specialized knowledge, lower trading costs, low management fees or agency costs, and a financing structure that allows the arbitrageur to undertake trades with long verification periods. The actions of these arbitrageurs cause liquid securities markets to be generally fairly efficient with respect to information, despite some notable anomalies.

Keywords: efficient market hypothesis, CAPM, APT, arbitrage

JEL Classification: G10 General Financial Markets, G14 Information and Market Efficiency

Suggested Citation

Ang, Andrew and Goetzmann, William N. and Schaefer, Stephen M., The Efficient Market Theory and Evidence: Implications for Active Investment Management (February, 29 2012). Foundations and Trends in Finance, Vol. 5, No. 3, 2010. Available at SSRN: https://ssrn.com/abstract=2013369

Andrew Ang (Contact Author)

BlackRock, Inc ( email )

55 East 52nd Street
New York City, NY 10055
United States

William N. Goetzmann

Yale School of Management - International Center for Finance ( email )

165 Whitney Ave.
P.O. Box 208200
New Haven, CT 06520-8200
United States
203-432-5950 (Phone)
203-436-9252 (Fax)

HOME PAGE: http://viking.som.yale.edu

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Stephen M. Schaefer

London Business School - Institute of Finance and Accounting ( email )

Sussex Place
Regent's Park
London NW1 4SA
United Kingdom
+44 171 706 6887 (Phone)
+44 171 724 3317 (Fax)

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