Market efficiency is the degree to which the price of a financial security, such as a stock, bond, or commodity, reflects all available information about that security. In other words, an efficient market is one in which the current market price of a security accurately reflects all publicly available information, making it difficult for investors to consistently achieve abnormal returns by trading on that information.
There are three forms of market efficiency:
- Weak form efficiency: The current price of a security reflects all past trading information, such as historical prices and trading volumes. Therefore, it is impossible for investors to make a profit by using technical analysis, such as chart patterns or trends, to predict future prices.
- Semi-strong form efficiency: The current price of a security reflects all publicly available information, including financial statements, news, and other market data. Therefore, it is impossible for investors to make a profit by using fundamental analysis, such as analyzing a company's financial statements, to identify undervalued or overvalued securities.
- Strong form efficiency: The current price of a security reflects all information, including insider information, that is not publicly available. Therefore, it is impossible for investors, even those with insider information, to consistently make a profit by trading on that information.
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