Stock market efficiency- Would you be willing to gamble?

Stock market now plays an important role in the economy, as it is a useful source for organizations to raise capital, investors to trade their shares and gain more returns. An ideal stock market is the one, which is fair- play, shares brings the same opportunities as well as benefits to investors. It is called efficient market, in which up- to- date information influences to the share price, quickly and rationally. It means that if the information is positive, the share price will follow the upward trend, and fall when a bad news is announced.

However, in real situation, a perfect market rarely exists. Fama (1970) classified market efficiency into three levels. In strong form level, share price reflects all kinds of information, even it is privately held. The lower level is semi- strong form, in which share price reflects fully the relevant publicly information. Finally, the weak form, where current price just reflects all information contained in past price movements.

                                                                                                    

Related to the theory, one question has been raised, in which have share prices always have positive performance toward its related good news?

When looking at the De Beers, there is evidence to prove that it is a semi strong form of efficiency. Information made available had influenced to the performance of the organization share’s price. In 2011, after Diamond producer De beers announced a surge in profits as Chinese and US shopper snapped up its gems, its share capital and reserve increased from $3,279 in 2010 to $3,996 in 2011. Following a report by the world’s biggest distributor of diamonds, the average market prices rose by 35 per cent (Financial times, 2011). It means that the firm gained more investments from investors, led to an increasing in profit up 62% to $698m (£443m).

However, there are some other real data proved that the stock market is not really efficient. According to the Wall Street Journal (2010), on may 6^th, the Dow jones Index fell nearly 1,000 points only to rebound rapidly by the end of the day. In the same year, Internet stocks vertically to zero after rising to phenomenally high prices. One noticeable thing must be remembered is that there was no announcement about these changes. I think it is a great example of the lack of efficiency. The case also follows the concept of “random walk”, in which share price movement cannot be predicted based on the past data.

Through two examples given out, in my point of view, I do not believe in the theory of stock market efficiency. It is dangerous for any investor to make investing decision just based on published information.

The theory also is not applicable especially under the competitive pressure nowadays. If stock market is efficient, people do not need to compete, just seeking and following strictly information published, their shares will be fairly priced. In fact, people tend to find the undervalued shares, make analysis and gain more the returns.

In point of view of Kendall (1953), share prices move randomly, without any patterns or trends. Trend of share prices is compared as a “drunken man”. So, we cannot base on the previous information to predict what might happen in the future. We also cannot completely believe in new information to define the future share price. It is confusing or even gambling to assess share price.

Is it the case that we need professional analysts, who have expertise and knowledge to guide us?

Here, importance of the analyst is more concerned.

I think analysts do have an important role in this situation. Although it is said that share price is unpredictable, opinion of analysts still is useful. By having more knowledge as well as experiences about changes of share price, they can give us recommendation and reasonable investigations. On the other hand, they also are able to give investors an overview about companies as well as the global economy. It could be useful information before any investing decisions. That is the reason why economic analysts always are respected.

To summary, based on real situations, I believe that stock market efficiency does not and should not exist in this competitive life to ensure the fair for people. They should base on their knowledge, expertise or even lucky to gain returns from their investments. However, they still get support form analysts to be more successful.