Behavioral Finance: Background; Behavioral ..
25/11/2011 · Behavioral finance takes ..
In 1970, Eugene Fama published his now-famous paper, “Efficient Capital Markets: A Review of Theory and Empirical Work.” Fama synthesized the existing work and contributed to the focus and direction of future research by defining three different forms of market efficiency: weak form, semistrong form, and strong form. In a weak-form efficient market, future returns cannot be predicted from past returns or any other market-based indicator, such as trading volume or the ratio of puts (options to sell stocks) to calls (options to buy stocks). In a semistrong efficient market, prices reflect all publicly available information about economic fundamentals, including the public market data (in weak form), as well as the content of financial reports, economic forecasts, company announcements, and so on. The distinction between the weak and semistrong forms is that it is virtually costless to observe public market data, whereas a high level of fundamental analysis is required if prices are to fully reflect publicly available information, such as public accounting data, public information regarding competition, and industry-specific knowledge. In strong form, the highest level of market efficiency, prices reflect all public and private information. This extreme form serves mainly as a limiting case because it would require even the private information of corporate officers about their own firm to be already captured in stock prices.
What is the main difference between behavioural finance and ..
Particular attention will be paid to the implications of these theories for theefficient markets hypothesis in finance. This is the hypothesis that financial pricesefficiently incorporate all public information and that prices can be regarded as optimalestimates of true investment value at all times. The efficient markets hypothesis in turnis based on more primitive notions that people behave rationally, or accurately maximizeexpected utility, and are able to process all available information. The idea behind theterm "efficient markets hypothesis," a term coined by Harry Roberts (1967), hasa long history in financial research, a far longer history than the term itself has. Thehypothesis (without the words efficient markets) was given a clear statement in Gibson(1889), and has apparently been widely known at least since then, if not longbefore. All this time there has also been tension over the hypothesis, a feelingamong many that there is something egregiously wrong with it; for an early example, seeMacKay (1841). In the past couple of decades the finance literature, has amassed asubstantial number of observations of apparent anomalies (from the standpoint of theefficient markets hypothesis) in financial markets. These anomalies suggest that theunderlying principles of rational behavior underlying the efficient markets hypothesis arenot entirely correct and that we need to look as well at other models of human behavior,as have been studied in the other social sciences.