ProzacMarket 25market returns, with the apotheosis being the insider trading scan-
dals of the 1980s.
Since the strong form of EMT has been discredited, debate con-
cerning EMT centers on the semistrong and wea kforms. Debate
over the wea kform generally is defined by analysis of the random
wal kmodel itself, usually in terms of the linear empirical models
used to test the relationship between successive price changes; this
has cut into the random wal kmodel.
A widely noted study by MIT’s Andrew Lo and Wharton’s A.
Craig MacKinlay demonstrated strong positive serial correlation in
stoc kprices for wee kly and monthly holding period returns. Using
1,216 weekly stock return observations from 1962 to 1985, they found
a weekly correlation coefficient of 30%, an extremely high level of
correlation. These researchers point out in their book, ANon-
Random Walk Down Wall Street, that this does not mean necessarily
that the stoc kmar ket is inefficient but that the random wal kmodel
cannot be the basis for any theory of efficiency.^8
Though not conclusive, evidence like this led even Eugene
Fama—a chief architect of EMT—to conclude that daily and weekly
stoc kreturns are predictable from past returns, thus rejecting the
random wal kmodel on a statistical basis.^9 Even so, Fama and the
other fathers of EMT cling to the view that such discrepancies are
merely anomalies that do not impair the basic model’s validity,
though others try to explain these results in a different way called
noise.
Noise
Consider John Maynard Keynes’s well-known beauty contest meta-
phor for the stock market. In the contest, each judge picks the can-
didate he or she thinks others will pick rather than the candidate he
or she thinks should win on merit. This replaces a fundamental or
substantive sort of analysis (of the kind urged in this book) with a
popular, speculative, and herd-pac kmentality.
The 1981 Nobel laureate James Tobin of Yale too kKeynes’s
beauty contest a step farther. He suggested that even if a public
capital market is efficient in the sense of swiftly incorporating public
information into stoc kprices (i.e., the semistrong form of EMT),
that does not necessarily mean that stoc kprices in that mar ket re-
flect fundamental values (i.e., the present value of expected future
flows to stockholders).^10