Daniel: > Shurely market prices have to react to buying and > selling, or they wouldn't be market prices.
Reacting to buying and selling is one thing, reacting to buying and selling _instantly_ is another. Of course market prices react to buying and selling. But not necessarily instantly. If you agree with this, then markets are not efficient even in the sense Doug defined. One typical example you would find in many a papers is the Royal Dutch/Shell phenomenon. Here is what Thaler says about it: >>>> Consider the example of the Royal Dutch/ Shell Group, as documented in Rosenthal and Young (1990) and Froot and Dabora (1999). Royal Dutch Petroleum and Shell Transport are independently incorporated in, respectively, the Netherlands and England. The current company emerged from a 1907 alliance between Royal Dutch and Shell Transport in which the two companies agreed to merge their interests on a 60/40 basis. Royal Dutch trades primarily in the United States and the Netherlands and is part of the S&P 500 Index; Shell trades primarily in London and is part of the Financial Times Stock Exchange Index. According to any rational model, the shares of these two components (after adjusting for foreign exchange) should trade in a 60-40 ratio. They do not; the actual price ratio has deviated from the expected one by more than 35 percent. Simple explanations, such as taxes and transaction costs, cannot explain the disparity. <<<< The rest is here: http://gsbwww.uchicago.edu/fac/richard.thaler/research/end.pdf Now, what is the market price of Royal Dutch/Shell? The Royal Dutch price or the Shell price? There are many other and well documented examples of persistent price anomalies that go against Doug's definition. Look at ebay auctions for example. As is well documented, most people who participate in those auctions can buy the thing they bought at ebay from some other online shop at a much lower price. Doing a google search is almost costless so search costs argument does not work here to explain this observation. What are the market price of the things these people buy at ebay? The price they paid there or the alternative lower price they could have determined almost instantly and paid on some other online shop? Also, if you were a Japanese employee in the late 80s and followed Jim's advice, you would not have done so well, as can be seen from here: http://finance.yahoo.com/q/bc?s=^N225&t=my Of course, one can argue that this is not diversification enough but how many of you have a Mongolian stock in your portfolio, not that I know whether there is any Mongolian stock traded somewhere in the world? Also, what is _the_ market? That is, what does beating or failing to beat the market mean? Like, Gross have beaten the Lehman Bond Index, which was his benchmark, quite nicely for many a years. Was he beating the market? Lastly, what happens if, although you beat the market nicely, the market tanks so badly that you still lose money? Sabri
