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The paradoxical efficient market hypothesis (2024)

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Re: The paradoxical efficient market hypothesis (2024)

#51

Post by rhubarbtree »

tempestn wrote: post #49
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.

You make a good point and I’m open to changing my mind.

How do you think it’s useful? Can it be used to make predictions about the future, for example?

Re: The paradoxical efficient market hypothesis (2024)

#52

Post by AnthonyMouse »

teiferer wrote: post #31
tennysont wrote: post #24

Earlier quoted context omitted.

Put another way: price is determined by need and supply (aka, demand curve meets supply curve). I would pay anything for air if I needed it, but I will gladly sell air in my yard for $1/m^3 because that air is worthless to me. Is air priceless or worthless? That is why price != value as most people think of it.

Not disagreeing with you, but isn't that already obvious from the fact that economic activity happens in the first place? If you buy 5 apples from me for $5 then two things must be true: 1. The value that those 5 apples have to you exceeds the value that $5 have to you, at least at this very moment. Otherwise you would hang on to your $5 instead. 2. The value that those 5 apples have to me is less than $5 have to me,…

Not necessarily. You could have a transaction take place where the buyer and the seller both value what's being exchanged in exactly the same amount and then go through with the transaction anyway because they both find trades entertaining or have a cultural preference for doing business with each other or just both place zero value on transaction costs.

That isn't common but that doesn't mean it could never happen.

Re: The paradoxical efficient market hypothesis (2024)

#53

Post by AnthonyMouse »

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…

You're not likely to see that in huge companies because everybody is already paying attention to them and it's harder to know something someone else doesn't about the thing everybody already knows everything about. Also, then it's more likely to happen on a scale of 10 days than 10 years.

Where that really happens is with startups and younger companies. Some company is currently making negative dollars but a few people have figured out that they're likely to be big so their share price is up before their earnings are.

And suppose you somehow actually knew what every major company's earnings would look like in every year from 2015 to now. Do you invest in Nvidia in 2015? Or do you invest in Netflix in 2015 and Tesla in 2019 and so on and not bother with Nvidia until just before the hockey stick?

Re: The paradoxical efficient market hypothesis (2024)

#54

Post by throw0101a »

mg wrote: post #10

the hypothesis maintains that stock prices reflect all relevant information about the stock This is a common description of the EMH. But every time I read it, I think: Does information really directly impact the price of a stock? How? 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? Are they all thinking at the same speed?…

> 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? Are they all thinking at the same speed? And if not, what does that tell us about the EMH?

To paraphrase William Gibson: the information may be available, but it is not evenly distributed.

It's why (e.g.) hedge funds use satellites to get information on company activities:

* https://newsroom.haas.berkeley.edu/how-hedge-funds-use-satel...

* https://internationalbanker.com/brokerage/how-satellite-imag...

It's takes resources (time, money, etc) to gain an advantage, and it's only do it because they think some extra bits of information will allow them to know more than The Market in general / their counterparties to get a better conditions on a trade or options.

Why do you think insider trading became illegal: some folks have that information before others simply because of their job/position. There was a case of someone knowing something early, because information can only travel as fast of the speed of light, which some "beat":

> Last Wednesday, the Federal Reserve announced it would not be tapering its bond buying program at 2 p.m. ET. The news takes seven milliseconds — about the speed of light — to reach Chicago. But before the seven milliseconds was up, a few huge orders based on the Fed's decision were placed on Chicago exchanges.

* https://www.npr.org/sections/alltechconsidered/2013/09/24/22...

* https://www.motherjones.com/kevin-drum/2013/11/final-frontie...

EMH is saying people that if people think they can make money, they will spend the resources to get an information edge to accurate price what a commodity is 'worth', either higher or lower. If you better know what it 'should' be, then you can devise a trading strategy (buy/sell/short/long) to get one over your counterparty.

Re: The paradoxical efficient market hypothesis (2024)

#55

Post by throw0101a »

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…

> 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.

You have to look at the volumes involved: if there are tens of millions of shares of a particular stock moved everyday, a single event that involves 100,000 shares is going to be lost in the noise.

There are always people who think they know better (if they didn't think so they wouldn't be trading), and they may make crazy-appearing trades. Lots of the people in The Big Short were viewed as 'lunatics' ("You're betting against the housing market?") that turned out to be right. But also remember that there are people who think the world is flat.

> The price roughly rose along the earnings. Even though the foundations for generative AI became clear in 2015.

It's also why you hear the talking heads on television say things like "…this has already been priced in.".

Re: The paradoxical efficient market hypothesis (2024)

#56

Post by smitty1e »

chii wrote: post #17
tru3_power wrote: post #5

Earlier quoted context omitted.

Also wouldn’t all information have to be available to all participants? How does insider knowledge factor here (because it sure does in the market)

those insiders could be choosing an action that affects the markets, or thru inaction, affect the markets. The current insider trading rules only prohibit actions, and does not prevent inaction. As an example, you could imagine that an insider were going to sell their portfolio of company issued shares, but because of insider info they have about a current project that would give rise to a price hike, they may choose…

For a sufficiently large market, over time, one would expect the Central Limit Theorem to kick in and filter the noise.

The "Efficient Market" can be seen as an Eternal Steady State, neglecting all transient signals.

Re: The paradoxical efficient market hypothesis (2024)

#57

Post by throw0101a »

janalsncm wrote: post #23

Does the EMH state that prices will reflect on the price of a stock instantly? If not, I don’t think there’s a paradox. EMH would just mean it will eventually converge? I guess that makes it pretty toothless in practice then. I feel like the stock market is pretty divorced from fundamentals at this point i.e. speculation makes it more like a Keynesian beauty contest (picking stocks you think other people will think a…

> I feel like the stock market is pretty divorced from fundamentals at this point i.e. speculation makes it more like a Keynesian beauty contest (picking stocks you think other people will think are valuable).

Momentum investing is a thing:

* https://www.investopedia.com/terms/m/momentum.asp

* https://en.wikipedia.org/wiki/Momentum_investing

A number of people make / made money when The Market became "divorced from fundamentals": see The Big Short.

* https://en.wikipedia.org/wiki/The_Big_Short_(film)

Just remember: "The market remain irrational longer than you can remain solvent." — Keynes, https://www.goodreads.com/quotes/603621

Re: The paradoxical efficient market hypothesis (2024)

#58

Post by daft_pink »

The efficient market hypothesis is a useful framework to understand complicated dynamic markets, but like almost all economic theories it isn't like a law of physics that explains reality 100%, but is a partial abstraction that explains key patterns of human behavior and information flow within markets.

You can think of it like a form of compression: it condenses an incredibly complex, chaotic system into something we can reason about. That simplification makes it powerful and insightful, but it also means that a lot of nuance and unpredictability are lost in the process. In contrast, a physical law can be calculated precisely and consistently, while market behavior is always shaped by human psychology, uncertainty, and imperfect information.

Re: The paradoxical efficient market hypothesis (2024)

#59

Post by chii »

smitty1e wrote: post #56
chii wrote: post #17

Earlier quoted context omitted.

those insiders could be choosing an action that affects the markets, or thru inaction, affect the markets. The current insider trading rules only prohibit actions, and does not prevent inaction. As an example, you could imagine that an insider were going to sell their portfolio of company issued shares, but because of insider info they have about a current project that would give rise to a price hike, they may choose…

For a sufficiently large market, over time, one would expect the Central Limit Theorem to kick in and filter the noise. The "Efficient Market" can be seen as an Eternal Steady State, neglecting all transient signals.

but doesnt the central limit theorem require each event to be i.i.d. ?

I dont think the efficient market is a result of the central limit theorem, since each transaction affecting the market is not independent of each other.

Re: The paradoxical efficient market hypothesis (2024)

#60

Post by readthenotes1 »

kqr wrote: post #36
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…

It seems like Bookstaber argues not that it's liquidity demand over information change, but that it is both . The tariff announcements are actually a great example, because it was triggered by new information, and diversification still kind of worked (at least some government bonds gained value during the drop in other assets classes). The main question, I suppose, is why correlations were so high after the tariff an…

"was triggered by new information,"

Trump had been threatening tariffs for the campaign and mentioning them before. There wasn't that much new information that should have caused the plummet.

Also I will point out that it's more like the avoidance of information that caused some of it Nvidia's stock plunged on an announcement that went something like:

Sentence 1: we are putting tarrifs on Taiwan Sentence 2: except semiconductor related goods

It as if the market participants read sentence 1 and very few of us read sentence 2.

The EMH would assert that a casual observer like me wouldn't see the price gap between the time it took for people to read sentence 2. But it took several business days...

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