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> But to say that the entire market is fully random is to claim that the efficient market hypothesis holds, which it clearly doesn't - not even in weak form. O

by lutusp 14y ago

> But to say that the entire market is fully random is to claim that the efficient market hypothesis holds, which it clearly doesn't - not even in weak form. Of course it does. All evidence supports the Efficient Market Hypothesis (EMH), and note my use of the word "evidence". A contradiction would have to be a series of funds that applied a given, predefined (internally) strategy and (very important) didn't reveal its picks to the public (to avoid the announcement effect). Such an experiment hasn't been done, and those cases in which a specific strategy was applied have been universal failures. Let's say for the sake of argument that there is a surefire winning strategy as is so often claimed in worthless investment books. If it were to be recognized and then applied, it would become the new market norm, everyone would apply it, and its differential value would evaporate overnight. That hypothetical experiment merely supports the EMH. > Anyone who wants to claim that the EMH is true needs to explain the equity premium puzzle, the success of value investing and the persistent outperformance of momentum investing - among many other price anomalies that I could name. Those result from a combination of the announcement effect and insider trading. Berkshire-Hathaway is successful because people expect it to be successful, and who invest in the same stocks when they're announced. It's a self-fulfilling prophecy. The only fair, scientific test would be a strategy that is applied in secret, not in public like Berkshire-Hathaway, and in a way that doesn't tweak the market itself by way of large purchases that create their own following of fanboys. In other words, a pure computer model that is defined in advance, not tweaked enroute, that doesn't actually invest but only models hypothetical investments, and that shows its value over other systems in perpetuity. There is no such thing, and the EMH is true. Remember the Null Hypothesis, the basis of modern scientific thinking. The Null Hypothesis assumes something without evidence is false. All evidence supports the EMH.

yarou 14y ago
Only in academic circles does EMH stay true. Time and time again, reality has shown that EMH is not applicable, or exists in a very weak form. One need only look to the LBO bubble and the dotcom bubble to see counter-examples of EMH.
- lutusp 14y ago
  In a conversation like this, rhetoric is cheap, and there is no evidence for your position. All evidence suggests that the EMH is true. Prove this wrong -- identify a surefire winning stock picking strategy that is immune to the announcement effect and insider trading, that reliably puts its practitioners ahead of market indices. There is no such thing. > One need only look to the LBO bubble and the dotcom bubble to see counter-examples of EMH. Those are not counterexamples, and they bear no relevance to the present topic. Anyone can misbehave in spectacular ways, but those misbehaviors don't falsify the EMH, any more than an airplane crash falsifies theories of aerodynamics.
  - lolcraft 14y ago
    First, from Wikipedia: "Empirical analyses have consistently found problems with the efficient-market hypothesis, the most consistent being that stocks with low price to earnings (and similarly, low price to cash-flow or book value) outperform other stocks." At the very least, accept that it's not such a clear case as you present it to be. But then, what about HFT arbitrage, low P/E ratios, choosing underperforming companies to take advantage of regression to the mean, Piotroski's F-Score, Graham-style value investing, bait and switch dumping, swing trading, the very real problem of pricing goodwill and non-material resources...? If not undermining weak EMH, at least they cast doubts over the strong forms. Or they should. Do also read John Carter's Mastering the Trade for some examples on how market inefficiencies can be exploited reliably. Supposedly (seen in Wikipedia, so I'm not that confident) market crashes are interpreted to be impossible under strong EMH (and yeah, the bubbles would definitely falsify them), but are allowed in weak EMH to be statistical events of a random process. Now, I've heard an interesting and convincing argument by Steve Keen[1] that the market is not Gaussian noise; it's a fractal process with dimension ~ 1.7 (Gaussian's dimension is 2) whose crashes obey a power law distribution, very different from what a random walk would generate. That falsifies the weak form. > Prove this wrong -- identify a surefire winning stock picking strategy that is immune to the announcement effect and insider trading, that reliably puts its practitioners ahead of market indices. Falsifying EMH does not require such a thing, no more than proving relativity requires observing time dilation at all velocities. This is an onerous, diabolical burden of proof. > Anyone can misbehave in spectacular ways, but those misbehaviors don't falsify the EMH, any more than an airplane crash falsifies theories of aerodynamics. If you had periodic epidemics of plane crashes that were more frequent than expected, sure, you should definitely suspect something's wrong. [1] Yeah, some things he says are somewhat crackpotty, but he's definitely not to be completely dismissed beforehand. I refer to his Behavioural Finance Lectures, published in Youtube.
crntaylor 14y ago
It's tough to know where to begin here. To refute the EMH you don't need a 'surefire winning strategy'. You only need a strategy that is profitable in expectation. And it doesn't need to be laid down in advance - all sources of expected return have a half life, and strategies need to be retired when they stop working. That necessitates continuous research. Also, you seem to defeat your own argument. The strong form EMH says that excess returns are not possible, even with insider trading - which you admit can lead to outperformance. The weak form EMH would prohibit excess returns from the announcement effect, but you admit that leads to return predictability as well. Which is it - does the EMH hold, or is the announcement effect real? Your arguments for why momentum, value and equity investing work also don't stand up. There's nothing to be "announced" in those strategies - you could apply them in a vacuum where you didn't know anything except prices and fundamentals. Similarly no insider knowledge is required. So why do you say that they are due to the announcement effect and insider trading? You also misunderstand the scientific method - the failure of an experiment to refute the null hypothesis does not lend credence to the null hypothesis! At most it tells you that the null is consistent with the observations. Moreover, you talk as if the Null Hypothesis is a particular statement, which it is not. There's a great XKCD comic I'd refer you to if I wasn't on my phone! If you want such an experiment, I humbly invite you to consider the past and future returns of the fund I work for, which is 100% model-driven. Although obviously we trade based on our predictions - because at the end of the day we're in this to make money, not to write papers or win internet arguments.
- lutusp 14y ago
  > To refute the EMH you don't need a 'surefire winning strategy'. You only need a strategy that is profitable in expectation. Yes, and, in spite of its tremendous theoretical importance, there is no such thing. > And it doesn't need to be laid down in advance ... Is this a scientific conversation? Yes? Then yes, it does. Any number of bogus studies can prove their claims if one can change the study's claims as the evidence comes in. > The strong form EMH says that excess returns are not possible, even with insider trading ... Ah, I see -- redefine the EMH, then prove the falsity of the redefinition. The EMH says no such thing. > The weak form EMH would prohibit excess returns from the announcement effect ... Also false. You aren't discussing the EMH, you're making it up as you go along. > There's nothing to be "announced" in those strategies - you could apply them in a vacuum where you didn't know anything except prices and fundamentals. Similarly no insider knowledge is required. So why do you say that they are due to the announcement effect and insider trading? That's easy to answer -- I never said any such thing, anywhere. You're arguing against a position no one has taken. I did say that an legitimate test needs to be conducted in private, with no actual investments -- a computer model defined in advance, that cannot be changed as the study proceeds, and that by definition cannot influence the real market being studied. There are no such successful models. The EMH appears to be true. > If you want such an experiment, I humbly invite you to consider the past and future returns of the fund I work for ... Ah, so you have a dog in this fight. You're not an impartial participant, striving for objectivity. That means I'm wasting my time talking to you -- you're not a scientist, you're a salesman.

by lutusp 14y ago

yarou 14y ago

Only in academic circles does EMH stay true. Time and time again, reality has shown that EMH is not applicable, or exists in a very weak form. One need only look to the LBO bubble and the dotcom bubble to see counter-examples of EMH.

lutusp 14y ago
In a conversation like this, rhetoric is cheap, and there is no evidence for your position. All evidence suggests that the EMH is true. Prove this wrong -- identify a surefire winning stock picking strategy that is immune to the announcement effect and insider trading, that reliably puts its practitioners ahead of market indices. There is no such thing. > One need only look to the LBO bubble and the dotcom bubble to see counter-examples of EMH. Those are not counterexamples, and they bear no relevance to the present topic. Anyone can misbehave in spectacular ways, but those misbehaviors don't falsify the EMH, any more than an airplane crash falsifies theories of aerodynamics.
- lolcraft 14y ago
  First, from Wikipedia: "Empirical analyses have consistently found problems with the efficient-market hypothesis, the most consistent being that stocks with low price to earnings (and similarly, low price to cash-flow or book value) outperform other stocks." At the very least, accept that it's not such a clear case as you present it to be. But then, what about HFT arbitrage, low P/E ratios, choosing underperforming companies to take advantage of regression to the mean, Piotroski's F-Score, Graham-style value investing, bait and switch dumping, swing trading, the very real problem of pricing goodwill and non-material resources...? If not undermining weak EMH, at least they cast doubts over the strong forms. Or they should. Do also read John Carter's Mastering the Trade for some examples on how market inefficiencies can be exploited reliably. Supposedly (seen in Wikipedia, so I'm not that confident) market crashes are interpreted to be impossible under strong EMH (and yeah, the bubbles would definitely falsify them), but are allowed in weak EMH to be statistical events of a random process. Now, I've heard an interesting and convincing argument by Steve Keen[1] that the market is not Gaussian noise; it's a fractal process with dimension ~ 1.7 (Gaussian's dimension is 2) whose crashes obey a power law distribution, very different from what a random walk would generate. That falsifies the weak form. > Prove this wrong -- identify a surefire winning stock picking strategy that is immune to the announcement effect and insider trading, that reliably puts its practitioners ahead of market indices. Falsifying EMH does not require such a thing, no more than proving relativity requires observing time dilation at all velocities. This is an onerous, diabolical burden of proof. > Anyone can misbehave in spectacular ways, but those misbehaviors don't falsify the EMH, any more than an airplane crash falsifies theories of aerodynamics. If you had periodic epidemics of plane crashes that were more frequent than expected, sure, you should definitely suspect something's wrong. [1] Yeah, some things he says are somewhat crackpotty, but he's definitely not to be completely dismissed beforehand. I refer to his Behavioural Finance Lectures, published in Youtube.

crntaylor 14y ago

It's tough to know where to begin here. To refute the EMH you don't need a 'surefire winning strategy'. You only need a strategy that is profitable in expectation. And it doesn't need to be laid down in advance - all sources of expected return have a half life, and strategies need to be retired when they stop working. That necessitates continuous research. Also, you seem to defeat your own argument. The strong form EMH says that excess returns are not possible, even with insider trading - which you admit can lead to outperformance. The weak form EMH would prohibit excess returns from the announcement effect, but you admit that leads to return predictability as well. Which is it - does the EMH hold, or is the announcement effect real? Your arguments for why momentum, value and equity investing work also don't stand up. There's nothing to be "announced" in those strategies - you could apply them in a vacuum where you didn't know anything except prices and fundamentals. Similarly no insider knowledge is required. So why do you say that they are due to the announcement effect and insider trading? You also misunderstand the scientific method - the failure of an experiment to refute the null hypothesis does not lend credence to the null hypothesis! At most it tells you that the null is consistent with the observations. Moreover, you talk as if the Null Hypothesis is a particular statement, which it is not. There's a great XKCD comic I'd refer you to if I wasn't on my phone! If you want such an experiment, I humbly invite you to consider the past and future returns of the fund I work for, which is 100% model-driven. Although obviously we trade based on our predictions - because at the end of the day we're in this to make money, not to write papers or win internet arguments.

lutusp 14y ago
> To refute the EMH you don't need a 'surefire winning strategy'. You only need a strategy that is profitable in expectation. Yes, and, in spite of its tremendous theoretical importance, there is no such thing. > And it doesn't need to be laid down in advance ... Is this a scientific conversation? Yes? Then yes, it does. Any number of bogus studies can prove their claims if one can change the study's claims as the evidence comes in. > The strong form EMH says that excess returns are not possible, even with insider trading ... Ah, I see -- redefine the EMH, then prove the falsity of the redefinition. The EMH says no such thing. > The weak form EMH would prohibit excess returns from the announcement effect ... Also false. You aren't discussing the EMH, you're making it up as you go along. > There's nothing to be "announced" in those strategies - you could apply them in a vacuum where you didn't know anything except prices and fundamentals. Similarly no insider knowledge is required. So why do you say that they are due to the announcement effect and insider trading? That's easy to answer -- I never said any such thing, anywhere. You're arguing against a position no one has taken. I did say that an legitimate test needs to be conducted in private, with no actual investments -- a computer model defined in advance, that cannot be changed as the study proceeds, and that by definition cannot influence the real market being studied. There are no such successful models. The EMH appears to be true. > If you want such an experiment, I humbly invite you to consider the past and future returns of the fund I work for ... Ah, so you have a dog in this fight. You're not an impartial participant, striving for objectivity. That means I'm wasting my time talking to you -- you're not a scientist, you're a salesman.