Measuring and Monitoring the Efficiency of Markets

Abstract

Market efficiency is measured by arbitrage proximity. The magnitude of probability distortion necessary to remove drift calibrates the efficiency. Simulations of bilateral gamma models estimated on a year's past returns yield empirical acceptability indices for each day for each asset. The assets covered include, equities, commodities, currencies and volatility. It is observed that efficiency in equity is related to the up side gamma process having more frequent and smaller jumps than its down side counterparts. For commodities the situation is reversed. The relative inefficiency of the absence of trading is noted on comparing close to open return efficiencies those for open to close returns. Small capitalization stocks trade more efficiently than large capitalization stocks. Sector exchange traded funds trade more efficiently than the S&P 500 index. Furthermore, economic activity reflected in greater high lows spreads enhances market efficiency.