The efficient market says that the market price reflects “all available information”. That’s tautological, and it’s hard to argue with tautologies. The problem is that trades are made by people or algorithms designed by people. Different people have different tolerances for risk, different ideas about market performance and different strategies for making money. What does it even mean for a price to reflect all available information? A lot of that information is embedded in people’s minds and situations and in our institution structures.
So, as stated, the EMH is correct. It has to be. What does this mean for trading? It helps to remember is that one can only sell a stock for what someone else is willing to buy it for and one can only buy a stock for what someone else will accept as payment. The EMH says that’s the price which is great, but not useful. I think the problem is that people tend to think that there is some absolute true price that is somehow discovered by trading. There’s no reason to believe this, but it is comforting. People try to estimate this price by looking at earnings, by looking at liquidation value, by studying prospects, by surveying potential customers and so on. That might be useful for deciding your own buy or sell price, but that’s your price.
The idea of the EMH is that the price is somehow or another actually the absolute true value of the item at a particular instant. I tend not to indulge in such mysticism. I’ve been through too many market crashes and transitions. I think societal and institutional structure are more important. Most people don’t have money. That limits investment opportunities, and for most of my lifetime the rule has been, if there is nothing to invest in, put your money in the stock market.
P.S. Back in January, I expected the market to crash for the COVID-19 epidemic and was tempted to sell. I did sell a few losers I was planning to sell anyway, but I had enough cash on hand to decide not to sell morre. Unless COVID-19 leads to a major restructuring of our economy that spreads the wealth more broadly, odds are it is going to recover nicely.
The efficient market says that the market price reflects “all available information”. That’s tautological, and it’s hard to argue with tautologies. The problem is that trades are made by people or algorithms designed by people. Different people have different tolerances for risk, different ideas about market performance and different strategies for making money. What does it even mean for a price to reflect all available information? A lot of that information is embedded in people’s minds and situations and in our institution structures.
So, as stated, the EMH is correct. It has to be. What does this mean for trading? It helps to remember is that one can only sell a stock for what someone else is willing to buy it for and one can only buy a stock for what someone else will accept as payment. The EMH says that’s the price which is great, but not useful. I think the problem is that people tend to think that there is some absolute true price that is somehow discovered by trading. There’s no reason to believe this, but it is comforting. People try to estimate this price by looking at earnings, by looking at liquidation value, by studying prospects, by surveying potential customers and so on. That might be useful for deciding your own buy or sell price, but that’s your price.
The idea of the EMH is that the price is somehow or another actually the absolute true value of the item at a particular instant. I tend not to indulge in such mysticism. I’ve been through too many market crashes and transitions. I think societal and institutional structure are more important. Most people don’t have money. That limits investment opportunities, and for most of my lifetime the rule has been, if there is nothing to invest in, put your money in the stock market.
P.S. Back in January, I expected the market to crash for the COVID-19 epidemic and was tempted to sell. I did sell a few losers I was planning to sell anyway, but I had enough cash on hand to decide not to sell morre. Unless COVID-19 leads to a major restructuring of our economy that spreads the wealth more broadly, odds are it is going to recover nicely.