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The paradoxical efficient market hypothesis (2024)

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Re: The paradoxical efficient market hypothesis (2024)

#41

Post by energy123 »

nopassrecover wrote: post #20
AnthonyMouse wrote: post #11

Earlier quoted context omitted.

> As people are forced to de-lever, everything goes down at once, often by very similar amounts, even though it cannot be possible that everything suddenly lost the same amount of value simultaneously. The price of something and the value of something were never expected to be the same. What's the value of food? If you have none you die, so the value is quite high, but the price is much lower than that because there…

> The price of something and the value of something were never expected to be the same While I agree with you (quite firmly: it’s a great starting point to put on the table to challenge orthodoxy in this space), and think you’re agreeing with the parent comment, it is a fundamental tenet of mainstream economics and the political arguments of neoliberal (aka current mainstream) policy that [price == (market averaged)…

Mainstream economists believe that value >= price. This is where economic surplus comes from. This is why trade is not zero sum, and it's why trade causes societies to get wealthier. Friendship and love fit into this framework just fine, as the price is $0, but the value is greater than $0.

Re: The paradoxical efficient market hypothesis (2024)

#42

Post by [deleted] »

derf_ wrote: post #7

Anyone who has lived through a market correction (the tariff announcements in early April this year being a recent example, though there have been far worse) should be able to see that market prices do not always accurately reflect even the consensus view of value (which itself can be wrong). As people are forced to de-lever, everything goes down at once, often by very similar amounts, even though it cannot be possib…

[deleted]

Re: The paradoxical efficient market hypothesis (2024)

#43

Post by wakawaka28 »

GMoromisato wrote: post #3

This seems to be a case of a feedback loop creating emergent behavior. Let's say almost everyone believed in the Efficient Market Hypothesis (EMH). Then, trading would decrease significantly, since most people would think that stocks are already fairly priced. That means the few people who trade would move the market significantly, based on whatever idiosyncratic value-theories they had. But then the EMH believers wo…

What you seem to be missing is that people don't solely derive value estimates based on the opinions of others. There are business fundamentals which can lead to one or more value estimates under different assumptions. If you don't do your own calculations, you may still read calculations from other people and reach a conclusion as to whether the true value of the stock is higher or lower than the market price.

EMH is about the tendency of the market to be efficient over time. It is purely of academic interest to dream up hypothetical scenarios where everyone is equally rational and informed, etc. There are degrees of efficiency and information, and it's useful to talk about this to try to understand how real markets work and can be made to work better.

Re: The paradoxical efficient market hypothesis (2024)

#44

Post by nearbuy »

mg wrote: post #38
nearbuy wrote: post #35

Earlier quoted context omitted.

Information that requires 12 months to figure out isn't information that's available now. Say you want to know the 400 trillionth digit of pi. We have all the information needed right now to know how to compute it. But you don't know what the actual digit is yet. The information isn't available and won't be until you set your supercomputer on it for some number of months. Having the information necessary to derive ot…

That definition would mean that smarter investors, who can think faster and further ahead, get information faster. And therefore have information now that others do not. That seems to be directly the opposite of the common definition of the EMH, which emphasizes how the market reacts to new information. And not how it produces information. For example in TFA: "the market rapidly responds to new information" Wikipedia…

The smartest, fastest investors are the ones who make a profit by incorporating their information into the stock price in the EMH. The stock price can't move on its own. Under the EMH, someone has to be the first to trade stock based on information so that the stock price reflects it. When they say "the market rapidly responds to new information", that means investors with the new information are buying or selling accordingly. It's not opposite at all.

How the information gets produced is irrelevant to the EMH. Whether it's obvious or takes hard thinking, either way, once investors obtain the information, they will trade based on it, and that will move the stock price.

Re: The paradoxical efficient market hypothesis (2024)

#45

Post by nearbuy »

mg wrote: post #29
AnthonyMouse wrote: post #14

Earlier quoted context omitted.

> What if it takes 12 months of hard thinking to draw the right conclusion from the information? Are there many investors who go to such lengths? It's not required to be all of them. Suppose that it indeed isn't, but the ones who do that work for investment funds who control significant pools of money. Now the investors in two or three of those places do the research and conclude that some company is about to start d…

But do we see that happen? That would mean that the p/e-ratio of a company would rise sharply long before the profits set in. And that rise would be called "mysterious" by the general public. And then only when the profits set in, the p/e would come down. I can't see that in Nvidia for example: https://www.macrotrends.net/stocks/charts/NVDA/nvidia/pe-rat... The price roughly rose along the earnings. Even though the f…

The landmark paper, "Attention is all you need", that triggered the breakthrough that led to current transformer architecture LLMs, only came out in 2017. Without that breakthrough, they wouldn't exist. And even then, the early models produced gibberish. Better gibberish than older Markov chain text generators, but asking GPT-2 "What is three plus five?" would give some nonsense, non-sequitur answer, that might start with a (incorrect) number if you were lucky. At the time, everyone was wondering if scaling up the model size would improve intelligence or hit a wall. ChatGPT didn't release until 2022.

And you'd need to know back in 2015 that Nvidia specifically would be the big winner from AI. They don't even manufacture their own chips. Intel also designs chips and GPUs, but if you bet on them in 2015, you'd have lost money between then and 2025.

Re: The paradoxical efficient market hypothesis (2024)

#46

Post by flave »

> if a sufficiently large majority of investors believe the hypothesis, they naturally would assume that new information about a stock would very quickly be reflected in its price. They would conclude that since relevant news almost immediately moves the price up or down, and since new developments can’t be predicted, neither can price increases or decreases

This is an oversimplification of how professional investing works.

The vast majority of the dollar value of markets isn’t governed by immediate profit seeking behaviour - it’s people trying to manage money in the context of a real business. Pension fund money is the largest “pot” in the markets at any one time.

Pensions funds aren’t incentivised to maximise returns in any particular quarter/year. Instead, they’re looking to manage risk and ensure consistent returns in the very long term.

Therefore, the “value” they place on various assets is different to what a trend fund or retail investor is thinking about. The price at which they would buy/sell is different.

The market value might “reflect” that information but it could easily create a situation in which short-term, strictly returns-motivated investors might value an asset much more than pension funds or vice versa. That creates opportunity for both to do a non-zero-sum trade and both “make money”.

I’ve seen it elsewhere in this thread but it’s simply not the case that the “markets are a casino”. The vast dollar value of the market is about sharing risk and providing liquidity.

The global bond market are at least 1.5 times the size of the equities market(s).

yes some markets are basically a casino but they’re tiny in comparison.

Re: The paradoxical efficient market hypothesis (2024)

#47

Post by rhubarbtree »

The EMH is obviously bs, as anyone with an ounce of common sense can observe from today’s market. To appeal to authority, buffet and monger and graham point out how insane Mr Market is, and they’ve done pretty well by exploiting its inefficiency.

Market prices are derived from supply and demand. A heavy determinant of demand is income equality. Another is interest rates. These are nothing to do with, in general, a particular stock.

It’s so obviously false to anyone trading or even watching stocks that serious discussion by academics just adds weight to the accusation that they don’t know what they’re talking about. We need a new, more serious, science of economics.

Re: The paradoxical efficient market hypothesis (2024)

#48

Post by tempestn »

whatever1 wrote: post #25

Sir this is just a casino. Stocks have nothing to do with the businesses right after they are issued. A business can opt to just never issue dividends (Hi Amazon). So the stock itself has 0 actual value. It does not generate cash. (Ok if the company goes belly up you will get a percentage of the carcass) But we can all gamble on what it is worth! So stockholders are like roulette pill holders. Everyone just bets on w…

A company could decide to never pay a dividend, yes. But that doesn't mean the stock is worthless; you need to take the thought process further. Who ultimately controls a company? The shareholders. So, imagine a scenario where a company is profitable and seemingly valuable, but for some reason the share price is not increasing, so the shareholders are not seeing their wealth increase. In that scenario they would probably either pay a dividend or, more likely, take advantage of the profitability and low stock price to buy back stock, driving up its value.

Either way, the owners of a successful company are going to want to profit from it, which will make the shares valuable. Of course, investors know this, and so the share price tends to track current value of expected future earnings even without the company taking direct action to distribute profits.

Re: The paradoxical efficient market hypothesis (2024)

#49

Post by tempestn »

rhubarbtree wrote: post #47

The EMH is obviously bs, as anyone with an ounce of common sense can observe from today’s market. To appeal to authority, buffet and monger and graham point out how insane Mr Market is, and they’ve done pretty well by exploiting its inefficiency. Market prices are derived from supply and demand. A heavy determinant of demand is income equality. Another is interest rates. These are nothing to do with, in general, a pa…

All models are flawed; some are useful. I would argue the EMH is an imperfect but useful model of market behaviour.

Re: The paradoxical efficient market hypothesis (2024)

#50

Post by Galanwe »

flave wrote: post #46

> if a sufficiently large majority of investors believe the hypothesis, they naturally would assume that new information about a stock would very quickly be reflected in its price. They would conclude that since relevant news almost immediately moves the price up or down, and since new developments can’t be predicted, neither can price increases or decreases This is an oversimplification of how professional investing…

> The vast dollar value of the market is about sharing risk and providing liquidity.

This, very well summarized.

I would nuance (but not disagree with) your comments on pension funds though. The thing is PF do not invest themselves, they usually are, or delegate to, funds of funds, which in turn decide on allocation based on the desired risk profile. It could very well happen that the total allocation is the sum of a multitude of individually short term investments, as long as these are diversified enough. I would concede that in practice that is not really feasible though.

These risks profiles are numerous, diverse, and ultimately idiosyncratic. People often forget or don't know about all these risk constraints, because they work in a fund that is bound to a specific risk mandate.

For instance, depending on how your investment vehicule is structured (the regulatory enveloppe through which you sell your fund, which ultimately determines to who you can sell, how you can advertise, how profits are taxed, etc), you can have liquidity constraints (e.g. clients should be able to redempt daily, weekly, ...) risk parity constraints (e.g. per asset class vol budgets, to be respected daily, weekly, etc), exposure budgets (e.g. country, sector, beta, ...), counterparty risk (e.g. minimum number of managers to allocate to, or clearing houses, or custodians), idiosyncratic risks (e.g. an insurance company will need to be neutral against natural disasters, healthcare exposure, etc), ESG, etc

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