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Imagine a world a world in which either all investors have costless access to currently available access about the future, all investors are good analysts, all investors pay close attention to market prices and adjust their holdings appropriately and that all investors pay close attention to market prices and adjust their holdings appropriably.
Do you believe in the Tooth Fairy?
In such a market a security's price would be a good estimate of its investment value, where investment value would be a good estimate of its investment value, where investment value is the present value is the present value of the security's future estimated by well informed and capable expert analyzers.
An efficient market could be defined as a (perfectly) efficient market would be one in which every security's price equals its investment value at all times.
In an efficient market, a set of information if fully and immediately reflected in market information. But what information?
For example, a market would be described as having weak-form efficiency if it was impossible to make abnormal profits by using past prices to make make decisions about when to make abnormal profits to buy and sell securities. This evidence suggests that major security market is weak-form efficient.
In an efficient market, any new information would be immediately and fully reflected in prices. New information is just that: new, meaning a surprise. Since happy surprises are almost as likely as unhappy ones, price changes in an efficient market are about as likely to be positive as well as negative. Whereas a security's price might be expected to move upward by an amount that provides a reasonable return on capital (when considered in conjunction with dividend payments), anything above or below this would, in such a market, be unpredictable. In a perfectly efficient market, price changes would be random?
Now consider a crazy market, in which the prices never bear any particular relationship to investment value. In such a world, price changes might also appear to be random. However major securities markets throughout the world are certainly not irrational. They may not attain proper efficiency, but they are certainly much closer to it than irrationality. To understand financial markets m it is important to understand perfectly efficient markets.
In an efficient market a securities price will be a good estimate of its investment value where investment value is the present value of the security's future prospects as estimated by well informed and capable analysts. Any substantive disparity between price and value would reflect market infancy. In a well developed and free market, major inefficiencies are rare. The reason is not hard to find. Major disparities between price and investment value will be noted by alert analysts, who will take advantage of their discoveries. Securities priced below (which are known as under priced or undervalued securities) _ will be purchased, creating pressure of price increases die to the increased demand to buy.
Securities purchased above value (known as overpriced or overvalued securities) will be sold, creating pressure for price decreases due to the increased supply to sell. As investors to sell.
As investors seek to take advantage of opportunities created by temporary inefficiencies, they will cause the inefficiencies, they will cause the inefficiencies to be reduced, denying the less alert and less informed the chance to obtain large abnormal profits.
In the world securities markets there are hundreds of thousands of professional security analysts and even more amateurs and wannnabees.
Not surpringly, due to their actions the major worldwide securities markets appear to be closer to efficiency than to irrationality.
Therefore as a result it is extremely difficult to make abnormal profits by trading securities in these markets.
One should strive for regular consistent growth – "the tortoise rather than the hare" in one's careful and insightful investment strategy and implementation …
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