On the (Significant) Possibility of Informationally-Efficient Markets

8 Pages Posted: 1 Jul 2019 Last revised: 2 Jul 2019

Date Written: June 30, 2019

Abstract

Financial markets with optimistic/overconfident investors will be efficient absent substantial short-sale constraints or seller lockups, because optimistic/overconfident investors do not require - as do the rational speculators in the Grossman and Stiglitz's (1980) "impossibility" result - equilibrium mispricing to draw them into speculation. Instead, they overestimate the profitability of their speculation, impounding information quickly into prices as a result. However, prices can deviate from efficient-markets values in the presence of substantial short-sale constraints or buyer or seller lockups. These predictions are consistent with the superiority of passive investment strategies (because markets are efficient and active investment is costly) and the documented effect of certain limits to arbitrage in facilitating mispricing.

Keywords: optimism, overconfidence, market efficiency, limits to arbitrage, passive investing, active management

Suggested Citation

Heaton, J.B., On the (Significant) Possibility of Informationally-Efficient Markets (June 30, 2019). Available at SSRN: https://ssrn.com/abstract=3412568 or http://dx.doi.org/10.2139/ssrn.3412568

J.B. Heaton (Contact Author)

J.B. Heaton, P.C. ( email )

20 West Kinzie
17th Floor
Chicago, IL 60654
United States
(312) 487-2600 (Phone)

HOME PAGE: http://jbheaton.com

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