Notion Of Market Efficiency Research Articles

Concepts, Components, and Collections of Trading Strategies and Market Color

This paper acts as a collection of various trading strategies and useful pieces of market information that might help to implement such strategies. This list is meant to be comprehensive (though by no means exhaustive) and hence we only provide pointers and give further sources to explore each strategy further. To set the stage for this exploration, we consider the factors that determine good and bad trades, the notions of market efficiency, the real prospect amidst the seemingly high expectations of homogeneous expectations from human beings and the catch-22 connotations that arise while comprehending the true meaning of rational investing. We can broadly classify trading ideas and client market color material into Delta-One and Derivative strategies since this acts as a natural categorization that depends on the expertise of the various trading desks that will implement these strategies. For each strategy, we will have a core idea and we will present different flavors of this central theme to demonstrate that we can easily cater to the varying risk appetites, regional preferences, asset management styles, investment philosophies, liability constraints, investment horizons, notional trading size, trading frequency and other preferences of different market participants.

The use of big data analytics to predict the foreign exchange rate based on public media: A machine-learning experiment

The authors analyze relevant public information provided by new media to predict the movement of the USD/TWD exchange rate and explore whether big data analytics with machine-learning modeling can exceed the random walk mechanism and the notion of market efficiency.

ANALYSIS OF RECOMMENDATIONS ABOUT EXPECTED PRICES OF IBEX 35 USING FUZZY NUMBERS

(ProQuest: ... denotes formulae omitted.)1. INTRODUCTIONThe wide variety of the financial instruments traded in the markets and their movements have generated interest among a broad range of specialists, from brokers and policy makers to researchers in the field of finance. Nowadays we can find numerous online portals providing financial valuations, price predictions or the expected changes in share prices traded in different markets such as the Ibex 35 continuous market, among others. Sometimes these predictions are qualitative, that is, they can consist of recommendations to buy or sell certain shares or predictions on whether their value will rise, fall or remain the same. At other times, the predictions are quantitative and show the experts' forecasts of shares.According to the Efficient Market Theory (EMH), no investor can obtain extra returns from additional information because the market knows all the information equally, which presupposes, therefore, that any important information is reflected in the prices, thus generating random behaviour among the prices and preventing any forecasts (Malkiel, 1992; Fama, 1970; Malkiel, 2003; Fama and French, 2010).Consequently, a market is considered efficient when the market and, therefore, the investors are completely rational, thus meaning that the prices negotiated in the financial markets reflect all the information available and presupposing the inexistence of asymmetries in the information (Duarte and Mascarenas, 2014). That is, in an efficient market, prices always reflect all the information, meaning that no instruments are undervalued or overvalued. For this reason it is possible to state that the intrinsic price is equal to the market price.For his part, Fama (1970) comments that the prices of instruments abide by the random walk theory, which states that changes in the prices of instruments are independent and have the same probability distribution.In addition, Fama (1970) classifies EMH into three categories:- Weak form hypothesis, where is assumed that each share reflects totally the past information.- Semi-strong form hypothesis, where prices reflect all past information and that information made public about the company.- Strong form hypothesis, where prices reflect all information whether past, public or private. Therefore, it is assumed that no investor is able to outperform the benchmark.However, some authors have criticised the EMH on the basis of movements in the stock markets that have no rational explanation, for example the studies by Stiglitz and Rothschild (1976) and Grossman and Stiglitz (1980) who question the hypothesis of the efficient market on the grounds that efficiency only occurs in exceptional circumstances.In addition to this, the financial literature highlights further non-economic anomalies that alter market capitalisation, for example the day of the week effect (Cross, 1973; French, 1980; Gibbons and Hess, 1981), the size effect (Banz, 1981; Reinganum, 1981; Roll, 1981), the loss aversion (Tversky and Kahneman, 1991) or the neglected firm effect. There are also anomalies among investors who take their decisions on the basis of psychological elements, such as herd behaviour (Chiang and Zheng, 2010; Kaminsky and Schmukler, 1999; Ritter, 2003)All of this has led to the emergence of an area of research known as behavioural finance, which tries to use psychological analysis to understand the behaviour of investors (Shefrin, 2002).Consequently, research in this area examines the fact that any economic or financial news can have an excessive and unpredictable effect on stock markets and this brings into question the notion of market efficiency. Furthermore, the existence of wide dispersion in the estimated valuations of the same security and of sufficient anomalies in the markets would justify the seeking for undervalued or overvalued financial assets.In the light of these findings, our initial hypothesis is based on the existence of imperfections in stock markets and of a certain level of efficiency in the weak sense, which implies that past information is included in current prices but that historical prices do not provide information about future prices, which would explain the large number of diverging opinions regarding the future value of financial assets (Lopez et al. …

Taming the City? Ideas, Structural Power and the Evolution of British Banking Policy Amidst the Great Financial Meltdown

We are increasingly learning more about the contingencies and independent variables that shape the structural power of business and financial interests. This paper contributes to this research by analysing factors that led to weakening in the structural power of financial interests in the City of London in the aftermath of the 2007/2008 crisis. We focus on under-researched mediators of structural power dynamics, especially the context of action and the agency and ideas of state leaders. Prior to the crisis, closed regulatory policy and a prevailing discourse premised upon the notion of market efficiency, helped to reinforce the structural power of the UK banking and financial sector. After the crisis heightened politicisation, more assertive state leadership, and especially ideational revision, has increasingly challenged the power of the City. We illustrate this through an examination of the Independent Commission on Banking's proposals in relation to the ‘ring fencing’ of investment and retail banks.

Further to Asset Price Trend Theory: Decision Making, Optimization, Fears and Aspirations, and Notions of Market Efficiency

In finance, decision making and choice requires that we assume that asset prices tend to trend. This assumption also logically enables us to construct exits to limit losses and protect capital. But investors have good reason to be uneasy regarding the potential for significant loss when using a traditional Markowitz framework to guide investment decisions. This is because Markowitz-optimized portfolios assume that assets are fully and continuously invested. Accordingly, for given levels of expected return, they can aspire to reduce variability of returns – typically pursued through asset class diversification, but not to strictly limit losses. ‘52/’59 Markowitz and subsequent extensions thus confine the scope of risk management to pursuit of risk moderation – the possibility of significant loss is persistent and inescapable.Herein we show how the constraint that assets be fully and continuously invested is inconsistent with basic decision theory, as it disallows a natural extension of the assumption that asset prices tend to trend – the use of exits to limit losses. A simple progression of logic illustrates how decision making and choice requires the assumption that asset prices tend to trend systematically. Extending this logic then naturally leads to a conceptual framework enabling pursuit of risk containment (limiting variability of returns), in addition to risk moderation (reducing variability of returns). Note that investors routinely fail to properly distinguish between risk moderation and risk containment – arguably one of the most important distinctions to be made in finance. We herein explore implications for the traditional ‘52’59 Markowitz approach to portfolio theory when the assumption that asset prices tend to trend is fully reflected in related models. And we provide a new perspective for review of studies relating to the efficient market and random walk hypotheses which sometimes employ elements of the structurally incomplete Markowitz model. Relative to “Asset Price Trend Theory: Reframing portfolio theory from the ground up” (Dubois [2013]), this paper also revisits and broadens aspects of asset price trend theory’s (APTT) decision-making premise, provides suggestions regarding a general approach to optimization within the APTT conceptual framework, and dissects key investor fears and aspirations in the context of the traditional Markowitz framework and the APTT framework.

Reflections on Soros: Mach, Quine, Arthur and far-from-equilibrium dynamics

We argue that the Soros account of reflexivity does not provide a clear-cut distinction between a social science such as economics and the physical sciences. It is pointed out that the participants who attempt to learn from refutations of conjectures in the Soros world are likely to be haunted by the Duhem–Quine problem of conjointness of hypotheses and unfocused refutation. On a more constructive note, we argue that models of inductive learning, in which participants form conjectures on the basis of strictly limited information sets, can capture the basic thrust of the Soros position. The conjectures are in motion, as the participants attempt to avoid those that are systematically wrong, and there is something vague and uncertain about what can be learned from experience and refutations. The only notion of market efficiency in this world is one contingent on the strictly limited and varied information sets in play. Finally we present a mathematical model and numerical simulations that help justify the causal relationship between reflexivity and far-from-equilibrium dynamics postulated by Soros.

Foreign Exchange Markets Efficiency Under Recent Crises: Evidence from the European Markets

This study investigates the European foreign exchange markets efficiency from both the within- and across-country perspectives and subsequently compared them across several recent crises. The European foreign exchange markets are generally efficient over the whole sample period. From the subsample periods analysis, September 11, 2001 event is shown to be the most disturbing event among recent crises. Surprisingly, there is little evidence of disturbance to foreign markets efficiency during the two most recent major crises namely the global financial crisis of 2008/09 and the current European Sovereign Debt Crisis (ESDC). The forward bias puzzle remains a more prominent phenomenon among the advanced countries' currencies than their developing counterparts. There is also evidence showing the convergence in the efficiency condition between the European advanced and developing countries‟ currencies in the later subsample periods. There are three key contributions; one, we have updated the literature until the recent ESDC; two, our results provide comfort to policymakers that the European foreign exchange markets efficiency is least affected by the recent crises; and three, our conclusions support the notion of market efficiency in the long run.

Speculative Dynamics I: Imperfect Competition, and the Implications for High Frequency Trading

We analyze the imperfect competition among multiple informed traders in an economy with a risky asset whose liquidation value is private information and follows a mean-reverting process. The unique linear equilibrium has an analytic form and is explicitly analyzed. When there are more auctions per unit time of trading, informed traders reduce the size of their orders at the same rate as the reduction in liquidity trading. When time is continuous, neither informed trading nor liquidity trading dominates the trading volume. The competitive market maker concludes that not all orders are informed. Therefore, price sensitivity to trades is finite, and the rents from private information are strictly positive, in sharp contrast with the findings obtained by Holden and Subrahmanyam (1992). In addition, informed trades cannot collude in order to smooth their trades, as in the monopolist models by Kyle (1985) and Chau and Vayanos (2008). Thus, informed traders can add significantly to trading volume and price variance. Although informed trading can be very volatile, the risk associated with traders' profits can be arbitrarily small. We propose an alternative measure of strong-form efficiency based on the Euclidean distance between the equilibrium price and the true value of the asset. Price errors in our model can be arbitrarily small, but Euclidean distance over a finite time is always positive even when time is continuous. Under this alternative measure, different notions of market efficiency can be consistent. Our model provides a rationale for the competition among high frequency traders, and shows that batching orders less frequently does not necessarily improve market liquidity.

Updating Expectations: An Analysis of Post-9/11 Returns

This study analyzes how three groups of market participants - insiders, analysts, and investors - revised their expected returns on New York Real Estate Investment Trusts (REITs) in response to the catastrophic events of September 11, 2001. The attack on the WTC represents a unique experimental setting to evaluate financial markets' reaction to external shocks for several reasons. First, these events, of a totally unanticipated and unprecedented nature, could not have been built into the market's expectations; hence, market participants had to learn something new rather than just recalibrate their expectations on past occurrences. Second, unlike other studies of market reactions, the impact of the terrorist attacks on REIT returns was ambiguous, since it was uncertain if the effect of reduced supply of office space in New York would outweigh the impact of the negative shocks to the local and national economy on its demand. Finally, the period of market closure that followed 9/11 gave these players ample opportunity to reassess their expectations. Our analysis reveals that, on the day when markets reopened, REITs with significant exposure to the New York area outperformed a broad REIT office index by 4.1%. However, we find that, according to several metrics of real market behavior, this anticipated superior performance of New York office properties did not materialize. Consistent with notions of market efficiency, we find that insiders were the first to lower their expectations (99.9% of their trades in REITs with New York exposure were sales in the month following 9/11), followed by analysts (the vast majority of them revised downward their expectations of NY REIT performance in the first weeks of November 2001), and finally market prices adjusted to reflect the underlying real market behavior; indeed, abnormal REIT returns had disappeared by mid November 2001.

An investigation of the weekend effect during different market orientations

Studies of stock returns over short horizons indicated irregularities in returns, the weekend effect, and consequently the notion of market efficiency has been questioned. Despite extensive research on the weekend effect, little research has been conducted to define the prominence of the seasonal anomaly in Bear markets versus non-Bear markets. In the paper the weekend effect is investigated for daily returns in the Dow Jones Industrial Average (DJIA), the S&P 500, and the NASDAQ for Bear and non-Bear markets. Results support a weekend effect but only during non-Bear market orientations and a possible day-of-the-week effect during Bear and non-Bear markets.

Zakah on Stocks: Some Unsettled Issues

Issues relating to zakah on equity shares are far from being settled if one considers the available fatawa and observed practices in many Muslim countries. The most basic questions pertain to the correct method of valuation of equity shares for the purpose of estimation of zakah liability. This paper reviews alternative methods of valuation and argues in favour of marketbased valuation. It also raises serious questions on the permissibility of exemption of fixed assets from zakah liability in the accounting based framework, notwithstanding its actual use in some Muslim countries. A market-based valuation framework is rooted in the notion of market efficiency, which dominates modern finance theories for over a century. The paper seeks to push forward the concept of average price as the basis of valuation as also of estimating zakah liability. It argues that the concept not only follows logically from the efficient market theory, but also is backed by sound Shari'ah evidence.

Crisis, contagion and cross-border effects: Evidence from the Latin American closed-end fund market

This paper investigates the behavior of four Latin American closed-end country funds – Argentina, Brazil, Chile and Mexico – in the context of the 1994 Mexican and 1997 Asian financial crises. A vector error correction model that imposes a bivariate GARCH-M framework is used to examine volatility spillover and cross-border relationships between each fund's share price (SP) and its underlying net asset value (NAV). Several important results emerge: (a) consistent with the notion of market efficiency, NAV and SP of each fund share a long-run equilibrium relationship; (b) the Mexico Fund plays an influential role during the crises as its NAV and SP influence each other and, furthermore, its discounts, and those of Argentina, exert a strong impact on the movements in the other funds' discounts; and (c) cross-border volatility spillover has a significant impact on changes in NAV and SP. The results of the study provide insights into the differential investor sentiment hypothesis and the evolution of fund discounts in the presence of economic shocks.

Impact of the FTSE4Good Index on firm price: An event study

This paper examines whether corporate financial performance is affected by public endorsement of environmental and social performance. Event study methodology, which relies on the notion of market efficiency, is used to examine the relationship between positive and negative announcements and changes in share prices or daily returns. Inclusion in and deletion from the FTSE4Good UK Index is used as a proxy measure for good (poor) corporate social responsibility. The abnormal or unexpected daily returns associated with an event are calculated and their significance tested. The results show a trend towards positive and negative announcements having the expected effects on daily returns. But these movements are not significant and the data do not suggest that a firm's presence on the index brings it any significant financial return for signalling its corporate social responsibility.

Market efficiency in the bulk freight market revisited

Given that the freight rate is the price of a transportation service that cannot be traded or stored; the traditional form of the efficient market hypothesis (EMH) does not apply to the freight rate price process. However, the notion of market efficiency still applies in the freight market. In particular, under the hypothesis that the market is semi-strong-form efficient, it should not be possible to make excess profit by taking chartering positions in the freight market based on public information such as past levels of the spot freight rate or the shape of the term structure of freight rates. This paper contributes to the literature by proposing an alternative test of market efficiency in the bulk freight market. We utilize technical analysis based on the history of spot freight rates and investigate the profitability of such chartering strategies for a tanker operator. The chartering decisions are based on identification of the peaks and troughs in the freight market cycles using kernel smoothing of the spot freight rate history. The empirical results suggest that a large tanker operator (e.g. a pool) could have achieved significant profits without investing in ships by trading on such information, although this does not hold in the most recent subset of the sample.

Zakah On Stocks: Some Unsettled Issues

Issues relating to zakah on equity shares are far from being settled if one considers the available falawa and observed practices in many Muslim countries, The most basic questions pertain to the correct method of valuation of equity shares for the purpose of estimation of zakah liability. This paper reviews alternative methods of valuation and argues in favour of market- based valuation. It also raises serious questions on the permissibility of exemption of fixed assets from zakah liability in the accounting based framework, notwithstanding its actual use in some Muslim countries. A market-based valuation framework is rooted in the notion of market efficiency, which dominates modern finance theories for over-a century. The paper seeks to push forward the concept of ‘average price’ as the basis of valuation as also of estimating zakah liability. It argues that the concept not only follows logically from the efficient market theory, but also is backed by sound Shari’ah evidence.

Bankruptcy Prediction with Industry Effects*

This paper investigates the forecasting accuracy of bankruptcy hazard rate models for U.S. companies over the time period 1962-1999 using both yearly and monthly observation intervals. The contribution of this paper is multiple-fold. One, using an expanded bankruptcy database we validate the superior forecasting performance of Shumway's (2001) model as opposed to Altman (1968) and Zmijewski (1984). Two, we demonstrate the importance of including industry effects in hazard rate estimation. Industry groupings are shown to significantly affect both the intercept and slope coeffi- cients in the forecasting equations. Three, we extend the hazard rate model to apply to financial firms and monthly observation intervals. Due to data limitations, most of the existing literature employs only yearly observations. We show that bankruptcy prediction is markedly improved using monthly observation intervals. Fourth, consistent with the notion of market efficiency with respect to publicly available information, we demonstrate that accounting variables add little predictive power when market variables are already included in the bankruptcy model.

Bankruptcy Prediction with Industry Effects

AbstractThis paper investigates the forecasting accuracy of bankruptcy hazard rate models for U.S. companies over the time period 1962–1999 using both yearly and monthly observation intervals. The contribution of this paper is multiple-fold. One, using an expanded bankruptcy database we validate the superior forecasting performance of Shumway's (2001) model as opposed to Altman (1968) and Zmijewski (1984). Two, we demonstrate the importance of including industry effects in hazard rate estimation. Industry groupings are shown to significantly affect both the intercept and slope coefficients in the forecasting equations. Three, we extend the hazard rate model to apply to financial firms and monthly observation intervals. Due to data limitations, most of the existing literature employs only yearly observations. We show that bankruptcy prediction is markedly improved using monthly observation intervals. Fourth, consistent with the notion of market efficiency with respect to publicly available information, we demonstrate that accounting variables add little predictive power when market variables are already included in the bankruptcy model.

Asset Mispricing, Arbitrage, and Volatility

The originaltheoretical arguments put forward in favor of effi-cient markets were based on the notion of stabiliz-ing speculation in the form of arbitrage (Friedman,1953). Simply put, arbitrage is “the simultaneouspurchase and sale of the same, or essentially similar,security in two different markets for advantageouslydifferent prices” (Sharpe and Alexander, 1990). Intheory, a perfectly hedged trading position of thissort could be executed at no cost (as the short-saleproceeds are used to finance the long position).Vigilant traders on the look-out for just such arbi-trage opportunities would ensure that no one couldconsistently “beat the market”—the hallmark ofefficient markets theory.The academics’ logical case for efficient marketsboils down to a pair of simple rhetorical questions:Why would utility-maximizing traders leave unex-ploited any profitable opportunities (after adjustingproperly for risk)? And if no risk-adjusted “freelunches” exist, how could market prices be predict-able enough to make money? For several decades,empirical evidence piled up both for and againstmarket efficiency. As of the early 1990s, neitherside could claim total vindication. As the 1990sprogressed, however, the weight of the evidenceseemed to tip toward those who claimed asset priceswere, at least to some extent, predictable (Campbell,Lo, and MacKinlay, 1997, Chaps. 2 and 7).The academic asset-pricing literature today isdominated by attempts to explain why and to whatextent the price movements of financial assets arepredictable. One potential explanation of stock-return predictability is that markets are efficient(“no free lunch”) but expected returns are time-varying, perhaps being linked to the business cycle.For example, expected returns may be highest wheneconomic risks are perceived to be high, such as ator near the bottom of a business cycle. Conversely,expected returns may be lowest when economicrisks are perceived to be low, at or near a business-cycle peak. Thus, the simple random-walk modelof stock returns may be false, but a relevant notionof market efficiency survives because high returnsare earned only by taking large amounts of risk. Adifferent type of explanation of return predictabilityrejects market efficiency and focuses on marketimperfections of various sorts, such as incompletestock-market participation by households, signifi canttransactions costs, changes in investor sentiment,or limited wealth and liquidity resources to conductarbitrage (as in the current article).

Bankruptcy Prediction With Industry Effects, Market Versus
 Accounting Variables, And Reduced Form Credit Risk Models

This paper investigates the forecasting accuracy of bankruptcy hazard rate models for U.S. companies over the time period 1962 - 1999 using both yearly and monthly observation intervals. The contribution of this paper is multiple-fold. One, using an expanded bankruptcy database we validate the superior forecasting performance of Shumway's (2001) model as opposed to Altman (1968) and Zmijewski (1984). Two, we demonstrate the importance of including industry effects in hazard rate estimation. Industry groupings are shown to significantly affect both the intercept and slope coefficients in the forecasting equations. Three, we extend the hazard rate model to apply to financial firms and monthly observation intervals. Due to data limitations, most of the existing literature employs only yearly observations. We show that bankruptcy prediction is markedly improved using monthly observation intervals. Fourth, consistent with the notion of market efficiency with respect to publicly available information, we demonstrate that accounting variables add little predictive power when market variables are already included in the bankruptcy model.

Cointegration, Efficiency and Forecasting in the Currency Market

Existing literature on using the cointegration approach to examine the efficiency of the foreign exchange market gives mixed results. Arguments typically focus on econometric testing techniques, with fractional cointegration being the most current one. This paper tries to look at the issue from an economic perspective. It shows that the cointegrating relationship, whether cointegrated or fractionally cointegrated, is found mainly among the currencies of the European Monetary System which are set to fluctuate within a given range. Hence, there is no inconsistency with the notion of market efficiency. Yet, exploiting such a cointegrating relationship is helpful in currency forecasting. There is some evidence that restricting the forecasting model to consist of only cointegrated currencies improves forecasting efficiency.