from the site:
Re-Constructing Strategy
Efficient Market Hypothesis: Intellectually Bankrupt
* Post
* _October 30, 2013_
(http://saqib.co/2013/10/30/efficient-market-hypothesis-intellectually-bankrupt/)
One of the pillars of modern financial theory is the _Efficient Market
Hypothesis_ (http://en.wikipedia.org/wiki/Efficient-market_hypothesis) (‘EMH’
), back in the limelight with the award of the Nobel Prize in Economics to
Eugene Fama (along with two other recipients), who has been one of this
school’s pioneers since its inception in the 1960s. The EMH is today part of
any investment course’s 1.01.
In summary, proponents of EMH argue that it’s impossible to beat the market
because each asset’s valuation reflects and incorporates all of the
relevant information. There are no bargains or over-valuations, according to
the
proponents, because buyers and sellers have factored in all of the relevant
information to their valuations and thus their decisions.
Much of the challenge to this approach came only as late as the 1990s from
behavioural economists who noted empirical issues with EMH. Specifically,
and not just pointing to the track record of investment managers such Warren
Buffett and his merry men at Berkshire Hathaway, they noted that equities
with lower price to earning ratios tend to outperform equities with higher
price to earning ratios.
What I find interesting is how little of the challenge emanated outside of
empiricism, which I suppose is hardly surprising since nearly all of the
discussion around EMH has been by academics of finance or economics, both
groups being avid drinkers of the empiricist Kool Aid. The failure to search
beyond empiricism probably explains why other academic disciplines, which
had torn up empiricism, had demonstrated EMH’s epistemological and
ontological bankruptcy even before it was articulated.
Since at least 1781 when Immanuel Kant published ‘Critique of pure Reason’
, we have known that empiricism is flawed. We’ve had that developed and
elucidated over the centuries through the works of Georg Hegel and Friedrich
Nietzsche amongst many others… well before Fama put pen to paper. And even
while he was writing his thesis, we were aware that we don’t have perfect
information through the works of dozens of social theorists including Michel
Foucault.
We simply do not have perfect information. We have known that for
centuries. So relying on a hypothesis which is based on perfect information
makes no
sense. We can’t have perfect information. For a start, our minds only work
with images and perceptions and not the world itself. Our minds experience
the perceptions and images which have been generated from our senses and
minds using language and concepts which interface with that external world.
We don’t deal directly with the world.
Then there’s the issue of observation being value-laden – we can’t make
sense of the world without deploying some kind of sub-theoretical framework
in the first place to understand the world. The objective facts partly
depend on the theory deployed! We can’t make sense of the world, whether
people,
buildings or French Fries, without applying some kind of abstract theory
to help determine what to look for. If observation is value-laden, how then
do we get perfect information?
Finally, our language and concepts aren’t backed by some kind of Ten
Commandments. Language is arbitrary and ethno and cultural-centric. It doesn’t
have a divine, clean or objective basis. Religious nutcases often sermonise
that scientific concepts are man-made. Yes, but so is their knowledge of
their respective religions. How can a system of socio-culturally evolved
communication tools (language) support ‘perfect’ information?
That being the case, that we’ve known for centuries that perfect
information it itself a complete intellectual non-starter, how is that
academics of
economics and finance still mull around theories based on the possibility
of perfect information? How is that they even take it seriously? Forget that,
how is it that even awarded this year’s Nobel Prize for Economics to one
of EMH’s key architects?
Part of that answer lies in the limited intellectual awareness within
economics and finance of disciplines which seek to engage mankind, how he knows
and what he needs. By ignoring social theory, epistemology, semiotics,
hermeneutics, critical theory and a vast range of other similar disciplines,
modern economics and modern financial academia has emerged in the
twenty-first century as an intellectually bankrupt space.
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