Tripod: Efficient Markets

<body bgcolor="#99CC33" text="#000000" link="#006600" alink="#99CC33" vlink="#003300"> <table border="0" cellpadding="0" cellspacing="0"> <tr> <td valign="TOP" align="CENTER" width="178">  <table border="0" cellpadding="0" cellspacing="0" width="170"> <tr> <td align="LEFT" valign="TOP" width="100%"> <a href="../../../../www_subdomain/adm/imagemap/logo-map.html"><img src="../../../../img/nav/www_subdomain/logo.gif" alt="Tripod Map" border="0" height="58" width="170" ismap></a></td> </tr> <tr> <td align="LEFT" valign="TOP" width="100%"> <a href="../../../../www_subdomain/adm/imagemap/universal2-map.html"><img src="../../../../img/nav/www_subdomain/universal2.gif" alt="Member Services Map" width="170" height="59" border="0" ismap></a></td> </tr><tr><td align="LEFT" valign="TOP" width="170" bgcolor="#999966"> <img src="../../../../img/www_subdomain/tripod_zones.gif" alt="tripod zones" width="81" height="17" border="0"></td> </tr><tr> <form action="http://www.tripod.com/bin/redirect" method="POST"> <td align="LEFT" valign="TOP" width="170" bgcolor="#999966"> <select name="URL"> <option value="/">Choose one:</option> <option value="/cars_trucks/">Cars&Trucks;</option> <option value="/computers_internet/">Computers/</option> <option value="/computers_internet/">       Internet</option> <option value="/entertainment/">Entertainment</option> <option value="/fun_games/">Fun&Games;</option> <option value="/health_fitness/">Health/Fitness</option> <option value="/home_family/">Home/Family</option> <option value="/jobs_career/">Jobs/Career</option> <option value="/money_business/">Money/Business</option> <option value="/shopping/">Shopping</option> <option value="/society_culture/">Society/Culture</option> <option value="/sports/">Sports</option> <option value="/teens/">Teens</option> <option value="/travel/">Travel</option> <option value="/women/">Women</option> </select><input type="IMAGE" src="../../../../img/www_subdomain/go.gif" width="24" height="20" border="0" align="ABSMIDDLE"> <img src="../../../../img/www_subdomain/trans.gif" width="1" height="3" border="0"><br><img src="../../../../img/www_subdomain/p_member_comm.gif" alt="pod member communities" width="146" height="11" border="0"><br> <a href="../../../../www_subdomain/adm/imagemap/pods-map.html"><img src="../../../../img/nav/www_subdomain/pods.gif" alt="Pod Map" width="170" height="18" border="0" align="top" ismap></a></td> </form> </tr> </table> <table border="0" cellpadding="2" cellspacing="1" width="170">  <tr><td></td></tr> <tr><td align="CENTER"> <center> <a href="#"></a> </center> </td></tr> <tr><td align="CENTER"> <center> <a href="#"></a> </center> </td></tr> </table>  </td> <td valign="TOP"><base target="_top"> <table cellspacing="0" border="0" width="100%"> <tr> <td valign="TOP" width="170"><table border="0" cellpadding="0" cellspacing="0" width="170"> <tr> <td align="LEFT" valign="TOP" width="100%"> <a href="../../../../www_subdomain/adm/imagemap/logo-map.html"><img src="../../../../img/nav/www_subdomain/logo.gif" alt="Tripod Map" border="0" height="58" width="170" ismap></a></td> </tr> <tr> <td align="LEFT" valign="TOP" width="100%"> <a href="../../../../www_subdomain/adm/imagemap/universal2-map.html"><img src="../../../../img/nav/www_subdomain/universal2.gif" alt="Member Services Map" width="170" height="59" border="0" ismap></a></td> </tr><tr><td align="LEFT" valign="TOP" width="170" bgcolor="#999966"> <img src="../../../../img/www_subdomain/tripod_zones.gif" alt="tripod zones" width="81" height="17" border="0"></td> </tr><tr> <form action="http://www.tripod.com/bin/redirect" method="POST"> <td align="LEFT" valign="TOP" width="170" bgcolor="#999966"> <select name="URL"> <option value="/">Choose one:</option> <option value="/cars_trucks/">Cars&Trucks;</option> <option value="/computers_internet/">Computers/</option> <option value="/computers_internet/">       Internet</option> <option value="/entertainment/">Entertainment</option> <option value="/fun_games/">Fun&Games;</option> <option value="/health_fitness/">Health/Fitness</option> <option value="/home_family/">Home/Family</option> <option value="/jobs_career/">Jobs/Career</option> <option value="/money_business/">Money/Business</option> <option value="/shopping/">Shopping</option> <option value="/society_culture/">Society/Culture</option> <option value="/sports/">Sports</option> <option value="/teens/">Teens</option> <option value="/travel/">Travel</option> <option value="/women/">Women</option> </select><input type="IMAGE" src="../../../../img/www_subdomain/go.gif" width="24" height="20" border="0" align="ABSMIDDLE"> <img src="../../../../img/www_subdomain/trans.gif" width="1" height="3" border="0"><br><img src="../../../../img/www_subdomain/p_member_comm.gif" alt="pod member communities" width="146" height="11" border="0"><br> <a href="../../../../www_subdomain/adm/imagemap/pods-map.html"><img src="../../../../img/nav/www_subdomain/pods.gif" alt="Pod Map" width="170" height="18" border="0" align="top" ismap></a></td> </form> </tr> </table> <table border="0" cellpadding="2" cellspacing="1" width="170">  <tr><td></td></tr> <tr><td align="CENTER"> <center> <a href="#"></a> </center> </td></tr> <tr><td align="CENTER"> <center> <a href="#"></a> </center> </td></tr> </table> <center><form name="FreeShop"> <table border="0" width="120" cellpadding="0" cellspacing="0"> <tr valign="TOP"> <td align="center" valign="TOP" bgcolor="#ffffff" width="120"> <a href="/"> </a></td> </tr> <tr valign="TOP"> <td align="center" valign="TOP" nowrap bgcolor="#ffffff" width="120"> <select name="FreeShop" onchange="self.parent.location.href = "http://www.tripod.com/bin/accipiter/tripod_adclick?CID=0000232a0000033200000000&overrideURL=" + this.options[this.selectedIndex].value;"> <option value="">Pick a Category <option value="http://tr2.freeshop.com/pg00013.htm">Computing <option value="http://tr2.freeshop.com/pg00013.htm">-& Electronics <option value="http://tr2.freeshop.com/pg00019.htm">Entertainment <option value="http://tr2.freeshop.com/pg00022.htm">Travel <option value="http://tr2.freeshop.com/pg00014.htm">Software <option value="http://tr2.freeshop.com/pg00015.htm">Style & Image <option value="http://tr2.freeshop.com/pg00016.htm">Personal <option value="http://tr2.freeshop.com/pg00016.htm">-Finance <option value="http://tr2.freeshop.com/pg00017.htm">Business <option value="http://tr2.freeshop.com/pg00017.htm">-& Career <option value="http://tr2.freeshop.com/pg00018.htm">Lifestyles <option value="http://tr2.freeshop.com/pg00018.htm">-& Interest <option value="http://tr2.freeshop.com/pg00020.htm">Hobbies <option value="http://tr2.freeshop.com/pg00021.htm">Family <option value="http://tr2.freeshop.com/pg00023.htm">Auto <option value="http://tr2.freeshop.com/pg00024.htm">Home & Living <option value="http://tr2.freeshop.com/pg00025.htm">Health, Fitness <option value="http://tr2.freeshop.com/pg00025.htm">-& Sports <option value="http://tr2.freeshop.com/pg00029.htm">Completely <option value="http://tr2.freeshop.com/pg00029.htm">-FREE Offers </select></td> </tr> </table> </form> </center> </td> <td valign="TOP" width="100%"> <table border="0" cellpadding="10" cellspacing="0" width="100%"> <tr valign="TOP"> <td align="LEFT" valign="TOP" colspan="2"> <center> <table width="100%"> <tr> <td align="right"> </td> </tr> <tr> <td> <b> <font face="geneva, arial, helvetica, verdana, san serif" size="+2"> What is an "Efficient Market?"</font></b><br> <font face="geneva, arial, helvetica, verdana, san serif"><b>by Ken Kurson</b></font></td> <td> </tr> </table> </center> </td> </tr> <td align="LEFT" valign="TOP"><font face="geneva, arial, helvetica, verdana, san serif"> Anyone who follows the market hears the term <b>efficient market</b> tossed around quite a bit. In essence, all this means is that securities are "priced correctly," since pertinent information about an investment's prospects is well known to all.</font> <font face="geneva, arial, helvetica, verdana, san serif" size="-1"><br><br> <table border="0" width="100" align="right"> <tr> <td width="100"><font face="geneva, arial, helvetica, verdana, san serif">"Efficient Market Theory is why a lot of people believe beating the market is impossible."</font></td> </tr> </table> Suppose the stock of America Online is trading at $90. According to efficient market theory, that's at or near the price it "should" be at, given all that's known about the company. If it were lower, bargain-smelling buyers would pile in, and that demand would drive the price higher. If it were higher, investor who already held the stock would rush to sell, and all that supply would drive the price down. In other words, the market has analyzed AOL's prospects and risks and decided $90 is a fair price for a share of the company's future. Certainly, new information could change everything, which is why prices fluctuate. That was demonstrated when Oxford Healthcare's announcement that its computer-billing system is whack was greeted by a 66% drop in its share price.<br><br> This concept is probably easier to understand via real-life examples. Say you go to the post office and see four cashier windows. If one of the windows has fewer customers, people hurry to get in that line; soon the advantage is erased and there are again equal amounts of people in each line. But what if one of the cashiers is faster than the others? Then the customers in that line have an advantage even if the line's the same length as the others. But if all the customers know about the fast cashier, they'll pile onto that line until whatever advantage existed is wiped out. So just like with stocks, the even dissemination of information gives all investors  or Post Office customers  the same advantage.<br><br> Insiders act on information that's not available to everyone. Sports bettors are all-too familiar with the efficient market concept  that's why long-term winners are virtually nonexistent. The bookmaker's burden is to get equal amounts of money on each side of a given bet. He arranges this through spreads. Let's say the 49ers are playing the Bears. Since no one will take the Bears without inducement, the 49ers are assigned a handicap of, say, 10 points. If most people (most money, actually, a $10,000 bet on one side is equal to 5 $2,000 bets on the other) think the 49ers will win by more than 10 points, the 49ers attract more cash than the Bears, so the handicap, or spread, moves higher, to 10-and-a-half, then 11, and so on. Eventually, the Bears have so many points they're irresistible and more money starts to come in on their side. So the line moves back down and keeps fluctuating until game time.<br><br> As with stocks, it's an efficient market because everyone has access to the same pertinent info  player stats, weather report, home team records in out-of-conference games following an eclipse, and all the other nonsense that addictive gamblers consider relevant. And as with stocks, informational changes can greatly impact the market  if Steve Young breaks his leg, expect the spread to verge greatly. Another way bookies equalize sides is to offer "money lines," which avoid spreads altogether. That would mean that a $250 bet on the 49ers would only pay, say $100, while a $100 bet on the Bears would pay $240. The line is moved to equalize the amount bet on each team, but the $10 gap between the underdog and favorite remains, to provide the bookie's profit. Can't fight the vig.<br><br> Efficient Market Theory is why a lot of people believe beating the market is impossible. If stocks are all priced where they should be, throwing a dart at the newspaper's stock listings should work as well as carefully researching and selecting stocks to put in a portfolio. Figuring that there's no reliable way to outperform the market consistently, such buyers park their money in "safe investments" like mutual funds, opting for low commissions and the assurance that they'll do no worse than the market at large.<br><br> It's a compelling argument and makes a lot of intuitive sense. But it fails to explain those rare individuals who have consistently beaten the market  Peter Lynch, Warren Buffett, George Soros, to name a few. And the theory relies on the assumption that information is fairly distributed  which isn't always the case, even when we're not talking about illegal insider trading. Efficient market theory dictates that anomalies are erased as eager profit seekers soon pile on in sufficient numbers to erase the anomaly. Just like a short line at the post office, people pile onto the "bargain" so quickly that soon it's not a bargain. Some anomalies stubbornly persist, such as the January Effect, which dictates that small stocks tend to outperform large during the first couple weeks of the year.<br><br> Much debate remains whether US stock markets really are efficient. But whichever side you're on, an understanding of this concept goes a long way toward understanding how markets work. <br><br> <center> <b>Read <a href="/">more Tripod columns</a> by Ken Kurson.</b></center> <br></font> </td> </tr> </table> <hr width="75%"> <font face="geneva, arial, helvetica, verdana, san serif" size="-1"> <a href="mailto:Greenzine@aol.com">Ken Kurson</a>, 29, is an editor at Esquire magazine, a regular commentator on CNNfn, and was formerly an editor at Worth magazine, where he wrote the popular "Advocate" column. Kurson is also the author of <b>The Green Guide to Personal Finance : Money Matters in Your Twenties and Thirties</b>, published by Main Street Books. His money zine, "GREEN: PERSONAL FINANCE FOR THE UNASHAMED," is published quarterly and is available for $3 an issue or $10 for a year's subscription. For more information or to subscribe, write GREEN at 245 8th Avenue, Suite 286, New York, NY, 10011.<br><br> <br><br>© Ken Kurson, All Rights Reserved.</font> </td> </tr> </table> </td> </tr> </table> </body>