Market efficiency

The capital market can operate at 3 different levels of efficiency in their speed and accuracy in re-pricing shares as new information becomes available.

Weak form

– Share prices slow to react to new information (e.g. newspapers)
– Share prices reflect all historical information including past share price movements

Semi-strong form

– Share price reacts as soon as the information is released (e.g. press release)
– Share prices reflect all publicly available information
– Professional investors can’t beat the market in the long-term unless they know something that the market doesn’t (e.g. Inside trading – This is illegal and distorts the share price, therefore doesn’t properly reflect the market)

Strong form

– Share price reacts before info is released to the public (e.g. resignation)
– This is NOT inside trading
– Share prices reflect information held privately by the directors

A key investment decision should be guided by the share price if the stock market is at least semi-strong form efficient

Note that I used to words “at least”. Semi-strong form efficiency not only reflects all publicly available information but all relevant information about past price movements.. Research in both the UK and the USA has suggested that market prices anticipate mergers several months before they are formally announced, and the conclusion drawn is that the stock markets in these countries do exhibit semi-strong efficiency.