Is the Stock Market Efficient?
Few people consistently make money betting on horse races. In finance terms, the horse racing market is efficient. But is the stock market efficient?
Some people argue that the stock market is efficient and that you should not spend any time trying to beat the market averages. On the other hand, others, including Warren Buffett, argue that the market is not efficient. It is not productive to debate whether the market is efficient; the important point is to think about the extent to which it is efficient. We come across many questions in our lives when a simple yes-or-no answer is not very meaningful. When someone asks, “Am I going to be able to make a living if I study engineering?” or “Am I going to get a job if I have a degree in mathematics?” the correct answer is generally “Yes, of course.” However, it is more important to know how good a living you can expect to make if you become an engineer or what kind of job you can land if you get a degree in mathematics. In the same manner, a simple yes or no to the market efficiency question is not worth getting agitated about. It is more important to know how, when, why, and to what extent the market is efficient and, especially, how, when, why, and to what extent it is not efficient.
In this article
- Can I Make Money in the Stock Market?
- Most Academics Favor Market Efficiency
- Recent Evidence on Market Inefficiency
- The Buffett Viewpoint
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Can I Make Money in the Stock Market?
Instead of thinking about market efficiency, you should ask, “Can I make money in the stock market?” Making money in this case means generating above-average returns. My answer to this all-important question is “Yes, of course.” If I thought otherwise, I would not be writing “Buffet Beyond Value,” I would not be investing in individual stocks, and I would not be teaching Buffett’s ideas. But it is also important to recognize that making money is not effortless. There may be bargains out there, but there is no free lunch.
As a starting point, consider these two simple questions. They should help you start thinking about making money in the stock market and whether you should try to beat the market or whether you are better off investing your money in an index fund.
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