The Efficient Market Hypothesis is a mainstay of academic thinking about financial markets. It is rejected by many traders and money managers. Warren Buffett, for example, famously said that he would be on a corner, selling pencils from a tin cup if markets were efficient.

I do not expect to settle this decades-long debate in a single blog post. Instead, I will share how my own personal thinking changed along with my career – from college professor, to financial analyst, and to investment manager. I hope to stimulate and to provoke; we can all benefit from some wise comments. I will also suggest a few ideas we might consider to exploit inefficiency.

Provocative Examples

It is often useful to have a specific example in mind. Let’s start with Facebook (FB), a company familiar to all. Here is a chart of recent stock action:

Let’s consider four time periods.

  • Before the Cambridge Analytics announcement. The stock was comfortably trading at the 185 level. Was the market efficient and rational? Was all information reflected? Try doing a custom Google search ending just before the news was announced. I used “Facebook use of personal data” ending on 3/15/18. The Cambridge story was different in magnitude, but not a surprise to anyone carefully following the stock.
  • Right after the announcement, with the stock at 173. Was the market efficient and rational? That was the market-clearing price for a day.
  • What about the Zuckerburg silence effect, taking the stock to 165 for a day or two. Was the market efficient and rational?
  • What about the current levels, with the (highly predictable) news that every attorney general trying to make a name – at any level of domestic or foreign government – is suing the company and demanding testimony. Is the market now efficient?
  • My question, and it is a question, is whether the market was efficient at both the start of this process and at the end. This seems inconsistent.

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