WARREN BUFFET

Warren Buffet

Warren Buffet

Introduction

The term “efficient market” has been used in diverse contexts; nonetheless, this conception has become very explicit in the field of finance. When someone refers to efficient capital markets, the implication refers to security prices that fully reflect all available information. This is a very strong hypothesis which supports a necessary condition for investors to have an incentive of negotiation. This incentive of negotiation is valid until prices fully reflect all information concerning them; in addition, the validity of this negotiation is facilitated when the cost of acquiring information and trading is zero. As these costs are clearly positive, a more realistic requirement is that prices reflect information until “the marginal costs of obtaining the same does not exceed the marginal benefit”.

Some authors assert that prices accurately reflect fundamental information for a market to be efficient. However, most of the tests and hypothesis concerning efficient market operations simply refer to the rate of incorporation of the information. It is widely accepted assumption that prices reflect the fundamental values such as “market rationality”. The efficient market hypothesis has been divided into three categories each treating a different type of information. The term “Efficient Capital Market” refers to different forms of market such as weak, semi-strong and strong form of efficiency in terms of markets. Tests of semi-strong form refer to the fact that whether the information is publicly available reflecting current prices of the securities.

Nonetheless, tests for strong form of efficient market hypothesis is taken into consideration if all information, whether public or private fully reflects securities prices and if any investor can obtain an additional gain in negotiations market. Market efficiency is often considered as a general category of performance tests regarding predictability of market information. There are different models that can be classified under this arrangement; these models include income earned from securities and models used to predict market anomalies. There are diverse implications of these models. In addition, the contemporary classification is concerned with predictability of returns, event study and the strong form of market (Curtis, 2004, 16-22).

Discussion

The theory of rational expectations can be expected to serve as a significantly relevant tool in the analysis of behaviour. However, in order to ascertain the utility of the theory of rational expectations, it is imperative to engage in a comparison of the results asserted by the theory through the usage of empirical evidence (Mishkin, 2007, 151-162). Expectations developed and associated with the behaviour of financial markets can only be expected to be as effective as predications made on the basis of information that is in-hand at the time when the predictions were formulated.

While financial economists may insist on the substantiality of their theories, the theories none the less remain heavily reliant on the development of rational expectations that are based on fundamental stock and security pricing (Mishkin, 2007, 151-162). Mishkin (2007, p. 162) clearly successfully brings the outcome of market efficiency to perspective. This approach is visibly reliant on the perception of an efficient ...