Trust, news and the efficient markets hypothesis

Original source: SimoleonSense.com .

Interesting draft via Leigh Caldwell

Introduction (via Leigh Caldwell)

The efficient markets hypothesis (Samuelson 1965, Fama 1970) claims that prices of assets in an efficient market immediately reflect all available news that is relevant to the returns on those assets.

This may be considered as the definition of an efficient market, but is more commonly treated as a descriptive hypothesis about the behaviour of real markets. Much work has been done subsequently to test whether real financial markets behave as the hypothesis suggests – with mixed conclusions. However, a key term in the hypothesis is generally left undefined: information.

In this paper I propose a meaningful definition of information, based on the beliefs of agents about the value of a good. This definition raises questions about how agents assign confidence levels to these beliefs and how they reconcile or integrate conflicting beliefs. I explore two different formal models which answer these questions in different ways. These models are shown to result in very different market behaviour and to provide different incentives for agent behaviour. I suggest some practical conclusions for market governance.

Click Here To Read: Trust, news and the efficient markets hypothesis