Market Efficiency Theory
Order Instructions:
For this paper, the writer will have to read the two post and react to them in one paragraph each. The writer will expand and constructively challenge each of this postings using a minimum of one scholarly article to support his point. each posting respond must have a minimum of 250 words and APA must be use . The writer will respond directly on the uploaded paper with the respond coming directly under each posting as indicated. the references must be in APA format.
SAMPLE ANSWER
It is strongly recommended that the writer tie each response to each posting reacting to the post directly why offering more insight on the topic of the post below.
Market Efficiency Theory
The theory of market efficiency is based on the premise that a market is considered efficient when stock prices are an actual reflection of information known about a company. U.S. markets are generally viewed as semi-strong form market efficient.
- What would happen if U.S. markets became less efficient?
- What might lead to markets becoming less efficient?
- How do markets in other countries compare to the U.S. in terms of efficiency?
For this paper, the writer will have to read the two post and react to them in one paragraph each. The writer will expand and constructively challenge each of this postings using a minimum of one scholarly article to support his point. each posting respond must have a minimum of 250 words and APA must be use . The writer will respond directly on the uploaded paper with the respond coming directly under each posting as indicated. the references must be in APA format.
Post 1
In a one paragraph each expand and constructively challenge each of this postings, using a scholarly article to support your point on each paragraph
Market efficiency theory states that investors have accurate information and use it correctly to make informed decisions about their investments (Markowitz, 2005). This evens the playing field for investors because each investor has the same amount of information to make informed decisions about their investment. It is an unrealistic expectation that all investors would have the same type of information. If that were the case, then there would not be investors that outperform the market like Warren Buffet. Even if all investors have accurate information some investors may interpret them differently. Some investors may interpret to mean that the company is in a healthy financial position while others may see the loop holes and not want to invest in that particular company.
If U.S markets became less efficient then there would be greater variability in the market. Less efficient means that different investors have different amounts of information. This would lead to bubbles in pricing and volatility in the market because investors would behave differently from one another because of the differences in their knowledge.
One major reason for a market to become less efficient is the behavioral patterns of investors. Some investors behave differently to others when they have information about a stock. Some investors are more risky than others and their buying or selling pattern will have an influence on the overall stock price. Another reason would be insider trading which is illegal but could happen. Investors may be privileged to information about a company before it is released to the public. If investors have financial information about earnings before the release date they may choose to buy or sell more of that particular stock. It would make the market inefficient because not everyone has this information so therefore everyone would not behave the same way.
The options market in India is considered to be priced efficiently according to Mohanti and Priyan (2014). They observed little or no difference in the price of stock using the Black Scholes formula compared to the actual price of the stock. Their findings suggest that the Indian market was efficient for the period 2008 to 2012.
References
Markowitz, H. M. (2005). Market efficiency: A theoretical distinction and so what?.Financial Analysts Journal, 61(5), 17-30.
Mohanti, D., &Priyan, P. K. (2014). An empirical test of market efficiency of Indian index options market using the Black–Scholes model and dynamic hedging strategy. Paradigm 18(2), 221-237. doi:10.1177/0971890714558709
Write a one paragraph hear to expand and constructively challenge the above postings, using a scholarly article to support your point.
The definition of market efficiency varies but it’s directly related to the information that the investors have and which is reflected on the prices of stock. Fama (1970) suggests that weak market efficiency is based on information on past prices while semi-strong efficiency is based on information on current prices. Strong efficiency is based on current prices and real time information. The US is considered as the most industrialized nation on earth and its largely because of its advanced communication and information systems. The information on all listed companies is available to all investors and the stock markets transactions are also available round the clock through on line networks. Hence the efficiency of the US stock markets cannot be matched globally. The huge investments that most multinational companies have made in the US must be related to the efficiency of the market. Capital markets that have lower transactional costs compared to the financial gains from the market provide more efficiency in the market as it draws more participants hence more investors. If the capital markets increased their transactional costs to be even with the market returns then all the gains in investments would be lost as most investors would find the market unprofitable hence sell out their shares. These actions would result in less participants and reduced amount of investments in the capital market. Inefficiency in the capital markets would mean reduced investments. Other causes of inefficiency like insider trading and behavioral patterns are can be tackled through the right channels (Markowitz, 2005). Insider trading in the US is illegal while behavioral patterns last only a few days or weeks after or before major company announcements. These actions provide self checking mechanism as share prices would rise if the public has high expectations on a company’s performance however the confidence wanes once reality sinks in that nothing new is forthcoming from company changes.
References
Fama, E.F. (1970) Efficient Capital Markets: A Review of Theory and Empirical Work, The journal of Finance, Vol. 25, No. 2, Papers and Proceedings of the Twenty-Eighth Annual Meeting of American Finance Association Blackwell Publishing for the American Finance Association, New York, N.Y. December, pg.28 – 30. Retrieved June 11 2015 from http://efinance.org.cn/cn/fm/Efficient%20Capital%20Markets%20A%20Review%20of%20Theory%20and%20Empirical%20Work.pdf
Markowitz, H. M. (2005). Market efficiency: A theoretical distinction and so what?.Financial Analysts Journal, 61(5), 17-30.
Post 2
What would happen if U.S. markets became less efficient?
Since the time of the Founding Fathers, U.S. leaders have believed in the concept of American exceptionalism, that the U.S. is a unique country with a special mission (Ross, Westerfield, & Jaffe, 2013). It is a notion that continues to this day. A debt crisis in Portugal could send ripples of uncertainty through world financial markets, and if a larger country like Spain fell into crisis, those ripples could prove mighty destabilizing. But U.S. debt runs the risk of crashing the entire operating system of the global economy. Here’s what I mean:
Not only is the U.S. the world’s largest economy by far but it also dominates the global monetary system. In many respects, the entire architecture of global finance is built upon the U.S. economy. Its capital markets are the most liquid. The dollar is the world’s No. 1 reserve currency and the primary one used in foreign exchange transactions and trade. Countries like China and Japan have their national wealth stored to a high degree in U.S. debt. When investors get nervous, they rush to U.S. dollar based assets, and especially U.S. debt. The perception has always been that the U.S. is the ultimate safe haven. Even as its financial condition sickens, that perception remains. Despite a dramatic increase in U.S. deficits and debt in recent years, the country has still been able to borrow at exceptionally low rates. In other words, the U.S. has benefited tremendously from its economic exceptionalism (Ross, Westerfield, & Jaffe, 2013).Now let’s see what would happen if that perception fundamentally changed. U.S. Treasury securities would be seen as riskier and would, therefore, become less attractive. Interest rates would rise in the U.S. as a result, not only making it harder for the government to finance budget deficits and debt, but also raising borrowing costs across the economy, slowing investment and consumption. The U.S. dollar would weaken, undermining the value of currency reserves around the world and speeding us along to the day when the dollar is no longer the world’s premier currency. All that would be destabilizing enough. It would likely mean slower growth in the world’s largest economy, deteriorating living standards for Americans and thus slower growth for the entire global economy (Ross, Westerfield, & Jaffe, 2013).
What might lead to markets becoming less efficient?
An immediate and direct implication of an efficient market is that no group of investors should be able to beat the market consistently using a common investment strategy. An efficient market would also carry very negative implications for many investment strategies and actions that are taken for granted. In an active market, equity research and valuation would be a costly task that provided no benefits. The odds of finding an undervalued stock should be random (50/50). At best, the benefits from information collection and equity research would cover the costs of doing the research. In an efficient market, a strategy of randomly diversifying across stocks or indexing to the market, carrying little or no information cost and minimal execution costs, would be superior to any other strategy that created larger information and execution costs. There would be no value added by portfolio managers and investment strategists. A policy of minimizing trading, i.e., creating a portfolio and not trading unless cash was needed, would be superior to a strategy that required frequent trading (Mohanti&Priyan, 2014).
How do markets in other countries compare to the U.S. in terms of efficiency?
The United States has recovered more quickly than other countries that don’t use the euro including Japan, New Zealand, Denmark and Britain. The performance is all the more remarkable considering that the financial crisis that sent much of the world into recession was set off by American homeowners defaulting on their mortgages, taking down a big chunk of the nation’s banking sector (Ross, Westerfield, & Jaffe, 2013).
The one crucial area in which the United States has performed worse than its peers is in jobs. Joblessness is at record highs in countries like Spain and Greece. But many European countries have done a much better job of protecting employment than the United States. In Austria, Germany and Belgium, the governments paid companies to put workers on short-time work rather than lay them off. Sweden also has a longstanding wage subsidy. Alongside stronger unions and stiffer employment regulations that make it tougher to fire workers, these countries managed to prevent soaring unemployment. Total employment in Britain, Germany, the Netherlands, Austria, France and even Italy has recovered more from the financial crisis than it has in the United States. Though the United States has grown faster than France (Van, 2011).
References
Mohanti, D., &Priyan, P. K. (2014). An empirical test of market efficiency of Indian index options market using the Black–Scholes model and dynamic hedging strategy. Paradigm 18(2), 221-237. doi:10.1177/0971890714558709
Ross, S. A., Westerfield, R. W., & Jaffe, J. (2013). Corporate Finance (10 ed.). New York: McGraw-Hill Irwin.
Van Bergen, J. (2011). Efficient market hypothesis: Is the stock market efficient? Retrieved from Forbes: http://www.forbes.com/sites/investopedia/2011/01/12/efficient-market-hypothesis-is-the-stock-market-efficient/
Write a one paragraph hear to expand and constructively challenge the above postings, using a scholarly article to support your point.
The US economy is driven by its competitive capital markets that literally support the livelihood and financial security of the American people (Ross, Westerfield, & Jaffe, 2013). The few cases that the US capital markets have been presumed to be inefficient have resulted in massive losses globally. The 2008 – 2009 global economic crises are closely related with the events that took place in the US following the collapse of the Lehman brothers and other financial institutions during that period. Inefficiencies in capital markets lead to losses both to investors and the companies (Fama, 1970). The prices of shares are associated with the events that are taking place at the capital markets and the information that the investors are receiving Negative information on the performance of a company is enough to send the share prices tumbling downwards.
The causes of inefficiencies in the capital market in the US may only be caused by interference by the government in the form of increased taxes that may decrease company profits resulting in decreased dividends and later reduced company share prices (Litzenberger & Ramaswamy, 1982). The other forms of inefficiency may occur as a result of insider trading where company officials may leak information to certain people who would take advantage in the market performance for companies that are introducing new products in the making or expanding operations in potential markets (Jegadeesh & Titman, 1993).
Compared to other countries the US has been a market setter. Its relatively more efficient capital markets are the largest globally and very successful. Emerging markets like China and Japan remotely compare to the US. The capital markets in the US are favorably placed because of the high GDP per capita in the US compared to China. More people are able to save and invest in the capital markets in the US compared to China, though the population of China is many times that of the US (Blanchard, 2011). But the US has to do more to protect its employment opportunities at home as most companies relocate to the Asian countries that have cheap labor.
References
Blanchard, O. (2011). Macroeconomics Updated (5th Ed.). Englewood Cliffs: Prentice Hall.
Fama, E.F. (1970) Efficient Capital Markets: A Review of Theory and Empirical Work, The journal of Finance, Vol. 25, No. 2, Papers and Proceedings of the Twenty-Eighth Annual Meeting of American Finance Association Blackwell Publishing for the American Finance Association, New York, N.Y. December, pg.28 – 30. Retrieved June 11 2015 from http://efinance.org.cn/cn/fm/Efficient%20Capital%20Markets%20A%20Review%20of%20Theory%20and%20Empirical%20Work.pdf
Jegadeesh, N, & Titman, S.J.N. (1993). “Returns to Buying winners and selling losers: Implications for stock market efficiency”. Journal of Finance 48 (1): 65–91.
Litzenberger, R.H. & Ramaswamy, K. (1982) The Effects of Dividends on Common Stock Prices or Information Effects? The Journal Of Finance, Vol.37, issue 2, pages 429-443, May 1982.- 10.111/j.1540-6261.1982.tb03565.x Retrieved 30 April 2012.
Ross, S. A., Westerfield, R. W., & Jaffe, J. (2013) Corporate Finance (10 ed.). New York: McGraw-Hill Irwin.
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