Abstract
This chapter concerns the efficiency of capital markets, which is at the source of trading and the potential for trading strategies to produce consistent profits. Market efficiency is defined and its relationship to the random behavior of security prices is explained. Weak form efficiency tests are described along with its relationship to technical analysis and calendar effects. Illustrations of momentum and mean reversion tests are provided. Semi-strong efficiency tests are described along with their relationships with fundamental analysis and corporate announcements. Event study methodology is illustrated with a small sample example. Strong form efficiency studies are described with an emphasis on insider trading. Prediction markets are offered to illustrate the transmission of information into prices.
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