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If the market is "stupid", what testable results do we expect? Here's one: smart people who figure out better ways to allocate money should be able to consisten

If the market is "stupid", what testable results do we expect? Here's one: smart people who figure out better ways to allocate money should be able to consistently beat the market performance. Markets behaving irrationally/stupidly != Markets behaving predictably So I disagree that if markets are stupid (irrational is a better word, but stupid would do) other people in the know could take advantage of them. Just because a given person cannot predict the movements of the market, that doesn't mean the market encodes some special unknown information or is in some aggregate sense smarter or more informed than that person. If the market moves essentially randomly in the short term, the most informed person would not have much chance of beating it. The market doesn't need to be clever to beat you, on the contrary, often it beats people by persisting in stupidity for much longer than they thought possible, or longer than they have time for, until they give in and invest, and then perhaps soon after it reverts to something resembling rational for a short while. That's not to mention the many ways in which our stock markets and other markets are rigged and stacked by insiders (insider trading, market manipulation, LIBOR, forex etc). So your contention that you'd need to be incredibly talented to 'beat the market' as you put it isn't very convincing - there is another explanation for the studies you cite - almost no-one is able to consistently beat the market, except by luck. I suspect (though it is just supposition), that markets are the average of all the uninformed and panicky humans who make them up, and that in those crowds of investors and speculators you'll find a madding mill of people all looking for the main chance which oscillates in a chaotic manner, not a huge collective wisdom which outshines everyone on the planet.

enoch_r 13y ago
The GP's claim was that: > The rich are simply not smart enough to intelligently allocate their capital. [...] You don't see big investments in new technology, science, infrastructure, or other complex and difficult areas because by and large the financiers do not understand these things. To me, this is saying: tech, science, and infrastructure and undercapitalized relative to their expected returns. It is very difficult for me to construct a model in which a) capital is foolishly providing too little capital to certain sectors relative to the returns it should get, and b) those sectors don't provide outsized returns to the capital they do get. Of course, such a model is possible! It's possible that returns are random but allocations are still irrational. But what does such a model look like? One possibility is that returns are totally unrelated to the underlying performance of an asset. For example: new technology is a more rational allocation of capital, and would provide greater return, but it doesn't, because return is totally disconnected from the performance of the technology. To me, that possibility seems quite unlikely. Yes, the anti-EMH position holds that prices frequently depart from their underlying value--but the idea that there is zero connection, as would be required by such a model, is not tenable. It's absolutely clear that real-world events have effects on asset prices. If, say, Oculus Rift becomes extremely popular with consumers, the capital that invested in it will receive large returns. Another possibility is that there are network effects that make it impossible to make the excess returns from these sectors unless the rest of the financial sector decides to invest in these sectors as well. But it's very difficult to see what those network effects might be, and it's even more difficult to imagine that they are present for all productive investments in these sectors. Unpredictability of asset returns is the primary testable prediction of the EMH. On the other hand, it is difficult to construct a reasonable anti-EMH position that incorporates the observed unpredictability of asset returns. Finally, if the claim that the market is ignoring great opportunities because of stupidity or irrationality does not imply that there are excess returns available on investments in those great opportunities, it's frankly difficult to see what the claim means. If I say "you should invest in my startup, because it's a more intelligent allocation of your capital than real estate--but no, I do not expect that you'll earn higher returns from my startup than you would from another investment," it's pretty difficult to understand what I actually mean by "more intelligent allocation."

enoch_r 13y ago

The GP's claim was that: > The rich are simply not smart enough to intelligently allocate their capital. [...] You don't see big investments in new technology, science, infrastructure, or other complex and difficult areas because by and large the financiers do not understand these things. To me, this is saying: tech, science, and infrastructure and undercapitalized relative to their expected returns. It is very difficult for me to construct a model in which a) capital is foolishly providing too little capital to certain sectors relative to the returns it should get, and b) those sectors don't provide outsized returns to the capital they do get. Of course, such a model is possible! It's possible that returns are random but allocations are still irrational. But what does such a model look like? One possibility is that returns are totally unrelated to the underlying performance of an asset. For example: new technology is a more rational allocation of capital, and would provide greater return, but it doesn't, because return is totally disconnected from the performance of the technology. To me, that possibility seems quite unlikely. Yes, the anti-EMH position holds that prices frequently depart from their underlying value--but the idea that there is zero connection, as would be required by such a model, is not tenable. It's absolutely clear that real-world events have effects on asset prices. If, say, Oculus Rift becomes extremely popular with consumers, the capital that invested in it will receive large returns. Another possibility is that there are network effects that make it impossible to make the excess returns from these sectors unless the rest of the financial sector decides to invest in these sectors as well. But it's very difficult to see what those network effects might be, and it's even more difficult to imagine that they are present for all productive investments in these sectors. Unpredictability of asset returns is the primary testable prediction of the EMH. On the other hand, it is difficult to construct a reasonable anti-EMH position that incorporates the observed unpredictability of asset returns. Finally, if the claim that the market is ignoring great opportunities because of stupidity or irrationality does not imply that there are excess returns available on investments in those great opportunities, it's frankly difficult to see what the claim means. If I say "you should invest in my startup, because it's a more intelligent allocation of your capital than real estate--but no, I do not expect that you'll earn higher returns from my startup than you would from another investment," it's pretty difficult to understand what I actually mean by "more intelligent allocation."