The Myth of the Rational Market: A History of Risk, Reward, and Delusion on Wall Street
by Justin Fox · 29 May 2009 · 461pp · 128,421 words
“The failures of stock market forecasters…reflect credit on the market.” This was the first clear statement of what came to be known as the efficient market hypothesis—in retrospect, a major landmark in twentieth-century thought. Others had made great claims for the ability of financial markets to assemble information and even
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that randomness was characteristic of a perfectly functioning financial market. In the finance literature, Samuelson’s paper is often cited as the origin of the efficient market hypothesis. This must be chalked up to the now-universal convention in economics and finance that until something is said mathematically, it has not been
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finance. His own tests of the capital asset pricing model had not delivered positive results, he said, and none of the tests of the efficient market hypothesis had examined whether the information contained in stock prices was truly useful for determining future earnings or risk. He concluded that “contrary to the impression
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-upon-Lake-Ontario. He began, “I believe there is no other proposition in economics which has more solid empirical evidence supporting it than the Efficient Market Hypothesis.”34 THE CONQUEST OF WALL STREET CHAPTER 7 JACK BOGLE TAKES ON THE PERFORMANCE CULT (AND WINS) The lesson that maybe it’s not even
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which fairly represents their comparative values, as established by the known facts and reasonable estimates about the future. This statement was the essence of the efficient market hypothesis, as formulated loosely and reasonably by someone with actual market experience. It meant, Graham wrote, that the average analyst was best off simply accepting
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MICHAEL JENSEN GETS CORPORATIONS TO OBEY THE MARKET The efficient market meets corporate America. Hostile takeovers and lots of talk about shareholder value ensue. THE EFFICIENT MARKET HYPOTHESIS IS a theory of financial markets, and its initial impact was on financial markets and those who make their living off them. But the
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Stiglitz proved, using a mathematical framework based on rational expectations and sprinkling their text with approving references to Hayek, that the strong form of the efficient market hypothesis could not be true. They also made the less obvious point that if information were inexpensive, there would in a market of rational investors
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design. Plott had even grander ambitions. During an academic year spent at the University of Chicago in the late 1970s, he asked Eugene Fama for advice on testing his efficient market hypothesis in an experimental setting. “He said his theory has nothing to do with experiments; it has to do with the U.S
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THE 1970 BOOK Predictability of Stock Prices, by Clive Granger and Oskar Morgenstern, reads as a sort of alternate-universe version of Eugene Fama’s far better known distillation of the efficient market hypothesis. Granger and Morgenstern had been members in good standing of the 1960s random walk fellowship. They were also big-time economists
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overall market, but it was no help in showing whether the overall market was correctly priced or not. The mostly forgotten other father of the efficient market hypothesis, Holbrook Working, had tried to devise a more fundamental accounting. He got some crucial help along the way from the Chicago Mercantile Exchange, the
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the way in looking for theoretical flaws in the perfect market worldview, another product of Samuelson and Modigliani’s MIT was to take on the efficient market hypothesis where it counted—in the data. Robert Shiller, who got his doctorate from MIT in 1972, was a sophisticated statistician and a crack computer
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drolly concluded, “to have a method for detecting the difference.”27 THESE REMARKABLE ADMISSIONS CAME FROM prominent scholars who had been closely associated with the efficient market hypothesis, but they had almost no immediate impact on the day-today practice of academic finance. Most finance professors ignored the Shiller-Summers broadside against
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beat the market even when you controlled for the supposed small-stock effect. FOR THE LONGEST TIME, THE author of the efficient market hypothesis was a mere spectator to these unsettling events. Eugene Fama did have a front-row seat—he was on Bänz’s dissertation committee, for one thing. After the mid-1970s, though
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are rarely as good as the originals,” Fama began, and while the rest of his verdict was largely positive, it was far from triumphal. The efficient market hypothesis had “passed the acid test of scientific usefulness,” he argued. “It has changed our views about the behavior of returns, across securities and through
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who had declared a few years earlier that there was “no other proposition in economics which has more solid empirical evidence supporting it than the Efficient Market Hypothesis.” Jensen was aware that the Columbia audience was heavy on Graham fans, and he started off with a joking comment about feeling like a
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Chicago or the slow-moving specialists of the New York Stock Exchange depended on which regulator you were talking to.9 Academic critics of the efficient market hypothesis, not surprisingly, felt vindicated by the crash. The same Wall Street Journal article that quoted Bill Sharpe’s puzzled postcrash musings featured triumphalist declarations
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changes in information about economic fundamentals, they’ve got to be disabused of that notion by Monday’s 500-point movement.” Said Shiller, “The efficient market hypothesis is the most remarkable error in the history of economic theory. This is just another nail in its coffin.”10 Shiller had recently become interested
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sometimes be just as pervasive as the rational ones. IN 1985, MIT GRADUATE STUDENT Andrei Shleifer assembled what he thought was compelling evidence against the efficient market hypothesis. He found that, starting in September 1976—the month after Vanguard launched the first retail index fund—new stocks being added to the S&
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mentor Larry Summers’s early exit from Harvard’s presidency. But that’s another story.4 Shleifer’s challenge to the efficient market hypothesis was eventful enough on its own. WHEN EUGENE FAMA RESPONDED TO the evidence against his joint hypothesis of the efficient market and the capital asset pricing model by jettisoning CAPM
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market, this new one was built on the same kind of earnings guesswork that investors had relied upon before anybody had ever heard of the efficient market hypothesis. It was just another Wall Street forecast, subject to disputation from anyone with different views about the future. The pervasive forces of the efficient
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one could hear business thinkers in Germany, Japan, and even France echoing Jensen’s arguments.12 Even most of the academic critics of the efficient market hypothesis went along. Andrei Shleifer spent part of the decade telling the Russians to privatize. Bob Shiller tried to create new securities to allow investors
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Sunstein’s work.17 BEHAVIORIST RESEARCH INTO ECONOMIC DECISION making had clearly “passed the acid test of scientific usefulness,” as Gene Fama claimed of his efficient market hypothesis a few years before. Still, there remained nagging questions. If people were beset by behavioral flaws, for example, then how could politicians and bureaucrats
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otherwise.” This was the strange state in which I found academic finance in the early years of the new millennium. The creator of the efficient market hypothesis no longer believed that prices were right, while some of the efficient market’s fiercest critics found themselves teaching in the classroom that…prices were
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of mortgage securitization began to crumble. The world’s financial system hasn’t been the same since. THE STOCK MARKET—THE ACTUAL SUBJECT of Eugene Fama’s efficient market hypothesis—held up pretty well through the panic. Stock investors failed to foresee the troubles that would result from the mortgage mess, but they digested
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Buffett Student of value-investing legend Benjamin Graham at Columbia Business School who went on to great success as an investor. Outspoken critic of the efficient market hypothesis and the academic approach to finance. Alfred Cowles III Chicago Tribune heir who, while convalescing from tuberculosis in Colorado in the 1920s, decided to
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stock market research, and led him—by way of Irving Fisher—to bankroll much early mathematical economic research. Eugene Fama Finance professor at the University of Chicago who in the late 1960s formulated the efficient market hypothesis. Later, in a series of empirical studies with Kenneth French in the 1990s, he showed that the
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Road to Serfdom (1944), inspired Milton Friedman and many other libertarians, and whose 1945 article, “The Use of Knowledge in Society,” helped inspire the efficient market hypothesis. Moved to the University of Chicago in 1950 but never played a big role in the Chicago school. Co-winner of the 1974 economics Nobel
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the stock market crash of 1987. Robert Lucas University of Chicago economist who popularized the theory of rational expectations, the economics version of finance’s efficient market hypothesis. Winner of the 1995 economics Nobel. Frederick Macaulay Student of Wesley Mitchell and skeptic of financial capitalism who presaged many of the developments of
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statistics professor whose own discussion of stock market randomness was published almost simultaneously with Osborne’s in 1959. A mentor to Eugene Fama, he formulated the idea of separating the efficient market hypothesis into strong and weak forms. Richard Roll Former aeronautical engineer who enrolled in the Chicago finance Ph.D. program in the
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some might favor Kenneth Arrow or Milton Friedman). Finance was just a side interest for him, but he devised the first mathematical proof of the efficient market hypothesis and came close to solving the option-pricing puzzle. Recipient of the second Nobel prize in economics, in 1970. Leonard “Jimmy” Savage Statistics professor
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showed in the early 1980s that stock prices jumped around more than could be justified by subsequent dividends. Became the most outspoken critic of the efficient market hypothesis, then warned in the late 1990s of irrational exuberance in stock prices and in the early 2000s of irrational exuberance in home prices. Andrei
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the 1978 economics Nobel. Joseph Stiglitz Student of Paul Samuelson and Franco Modigliani who, influenced by the work of Kenneth Arrow, showed how the efficient market hypothesis could not be—in theory at least—entirely true. Co-winner of the 2001 economics Nobel. Lawrence Summers Nephew of Paul Samuelson and Kenneth Arrow
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the apparent randomness of the market movements might be evidence that markets were doing a good job—making him a usually uncredited author of the efficient market hypothesis. ACKNOWLEDGMENTS WRITING THIS BOOK TOOK A lot longer than planned. During its gestation I went through four bosses and three book editors. That was
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. 23, 2008, available at http://oversight.house.gov/story.asp?ID=2256. 5. Economist Bob Shiller cites this as the earliest clear statement of the efficient market hypothesis that he has been able to find. Robert J. Shiller, Irrational Exuberance (New York: Broadway Books, 2001), 172. 6. Raymond de Roover, “The
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: How the Drive for Quarterly Earnings Corrupted Wall Street and Corporate America (New York: Random House, 2003). 29. “The most general implication of the efficient market hypothesis is that most security analysis is logically complete and valueless,” is how Lorie and Hamilton began their passage on security analysis. In his Warren Buffett
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Investment Company” (Bogle), 112 Economics (Samuelson), 61, 62–63 “The Economy as an Evolving Complex System” (conference), 302 Edwards, Robert, 68 Edwards, Ward, 177 efficient market hypothesis. See also rational market hypothesis and agency costs, 162 and behavioral finance, 299–300 and the Chicago School, xiii, 101–5 and contrary evidence, 224
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259–60 and behavioral finance, 295–96, 296–97, 298, 299–300 and the Chicago School of Economics, 96 and computing, 99–100 and the efficient market hypothesis, 101, 103–5, 193–94, 204, 206–8 and equity risk premium, 263 and experimental economics, 190 and the Journal of Financial Economics, 201
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Industrial Administration (GSIA), 79, 178–79 Graham, Benjamin, 324 and arbitrage, 249 and Buffett, 214, 215 and corporate management, 155 and dividends, 82 and the efficient market hypothesis, 119–20, 366n. 29 and Fama, 209 and Haugen, 254 and index funds, 131 and Markowitz, 53 and “noise traders,” 252 and options, 220,
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127–31, 140–41, 169, 200, 227–28, 230–31, 272 inductive reasoning, 30 industrial revolution, 154, 309 inefficiency, 201, 259, 260, 262. See also efficient market hypothesis inflation, 12, 14, 19–22, 255, 264, 289 Institute for Advanced Study, 50 Institute for Quantitative Research, 126 Institutional Investor, 96, 140 institutional investors, 271
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, 206, 288 Japan, 268 Jensen, Michael, 324 and capital asset pricing, 141, 346–47n. 30 and the Chicago School of Economics, 100 and the efficient market hypothesis, 101–3, 107 and executive compensation, 275 and Fama, 206, 207 and Friend, 106 and hostile takeovers, 168–71 and integrity in business, 285–86
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222–23 and cost of capital, 83–84, 143 and decision-making processes, 179 and derivatives, 237 and the dividend puzzle, 200–201 and the efficient market hypothesis, 203 and finance, 80–81 and Friedman, 94 and M&M propositions, 82–83, 95–96 and options, 148 and the random walk hypothesis,
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191–92, 200, 201, 293, 359n. 25 Shiller, Robert, 320–21, 328 and bull markets, 256 and democratization of the market, 237 and the efficient market hypothesis, 203 and Fama, 207 on “irrational exuberance,” 263, 297 and Jensen, 213 and market bubbles, 259, 269–70, 316–17 and market crashes, 232 and
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of Scientific Revolutions (Kuhn), 107, 203 Stulz, René, 251–52 subprime lending, 313–15 subsidies, 194 Summers, Lawrence, 328 and Black, 200 and the efficient market hypothesis, 203 and Fama, 207 and market crashes, 232 and the National Bureau of Economic Research, 183 and overvaluations, 269–70 and political appointments, 252 and
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University of California, Los Angeles (UCLA), 86 University of Chicago (Chicago School of Economics) and academic isolation, 89–90 early growth of, 94–97 and efficient market hypothesis, xiii and experimental economics, 190 and Follies event, 287–89 founding of, 94–97 and Hayek, 92 and hostile takeovers, 167–68 and Knight,
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156–57 Windsor Fund, 122 Wolfson, Lewis, 165–66 Woodward, Bob, 258 Working, Holbrook, 329 and agricultural futures, 93 and economic Brownian motion, 73 and efficient market hypothesis, 194–95 and Kendall, 64–65 and the Merrill Foundation, 55, 126 and quantitative approach, 47 and random walk theory, 69, 70 and the rational
Never Let a Serious Crisis Go to Waste: How Neoliberalism Survived the Financial Meltdown
by Philip Mirowski · 24 Jun 2013 · 662pp · 180,546 words
the Cato Institute began their slow seepage back into respectability. The INET crowd kept trying to wake up from—what?—neoclassical microeconomics, rational expectations, the efficient markets hypothesis, Black-Scholes, the Coase theorem, faux-Keynesian macroeconomics, optimality, public choice theory, baroque fiduciary mathematics, the end of history—what exactly? How could you even
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Levitt’s “freakonomics,” from Heartland’s climate denialism to AEI’s geoengineering project, and, most appositely, from Hayek’s “socialist calculation controversy” to Chicago’s efficient-markets hypothesis. Along the way they have lightly sloughed off many prior classical liberal doctrines—for instance, opposition to corporate monopoly power as politically debilitating, or skepticism
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outguess the market, even in the midst of crisis free fall, must fail. But far from a purely negative doctrine, another related version of the efficient-markets hypothesis underwrote much of the theories and algorithms that were the framework of the baroque financial instruments and practices which resulted in the crisis in the
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asserted that their purpose was to repackage risk and retail it to those best situated to bear it. This theory was colloquially known as the efficient-markets hypothesis (again covered in chapter 5), and had undergone extensive mathematical elaboration by academics and their acolytes in the banks, known as “quants.” The
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efficient-markets hypothesis claimed to show that all relevant information for all parties to a transaction were already embodied in the market price of a financial instrument. As
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that it takes superhuman effort not to cut and paste the entire brace here. For instance, when Cassidy asked the father of efficient-markets theory, Eugene Fama, how the theory had fared in the crisis, Fama replied, “I think it did quite well in this episode.” When challenged by Cassidy, he responded
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approached John Cochrane to get him to engage in a little unintentional self-examination, asking him what Chicago doctrine remained after the crisis of the efficient-markets hypothesis and the rational-expectations theory. Cochrane answered, “I think everything. Why not? Seriously now, these are not ideas so superficial that you can reject them
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books by neoliberals are treated as par for the course. There he also innovates a few more rather contrarian positions on the crisis: that the efficient-markets hypothesis (more on this in the next chapter) did not lead investors astray; that Wall Street compensation packages did not distort incentives and behavior; and finally
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Lehman Brothers in September. This is nothing new. It has been known for more than 40 years and is one of the main implications of Eugene Fama’s “efficient-market hypothesis” (EMH), which states that the price of a financial asset reflects all relevant, generally available information. If an economist had a formula that could
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was happy to provide a special blog on which they could register their dissent.28 Some insisted that the heart of the problem was the efficient-markets hypothesis. Brad de Long suggested Lucas was changing his tune as the crisis evolved. Others, like Harvard’s Robert Barro, propounded the proposition that the proof
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more counter-cyclical occupation than economist.” This only served to pour gasoline on the blogosphere. The line quickly hardened within the counterreformation that the orthodox efficient-markets hypothesis had been confirmed by the crisis, and that economists had never borne the onus of predicting much of anything at all. This comes out quite
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asked Fama how he thought the theory, which says prices of financial assets accurately reflect all of the available information about economic fundamentals, had fared. Eugene Fama: I think it did quite well in this episode. Stock prices typically decline prior to and in a state of recession. This was a particularly
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. I don’t even know what a bubble means. These words have become popular. I don’t think they have any meaning. . . . Back to the efficient markets hypothesis. You said earlier that it comes out of this episode pretty well. Others say the market may be good at pricing in a relative sense
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is the Cassidy interview with the Cato neoliberal John Cochrane: The two biggest ideas associated with Chicago economics over the past thirty years are the efficient markets hypothesis and the rational expectations hypothesis. At this stage, what’s left of those two? John Cochrane: I think everything. Why not? Seriously, now, these are
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up with specific theories. In the United States, we’ve had two massive speculative bubbles in ten years. How can that be consistent with the efficient markets hypothesis? Great, so now you know how to define “bubbles” for me. I’ve been looking for that for twenty years.30 If one imagines the
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Attempts to Close the Barn Door After the Horses Have Bolted As opposed to the out-and-out denial of a John Cochrane or a Eugene Fama or a John Taylor or a Robert Lucas, many neoclassical economists were sufficiently chastened or blindsided by events in the economic crisis to concede that
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get puffed up into full-blown paladins of deliverance: naming them in decreasing order of ambition, they were (1) behavioral economics; (2) repudiation of the efficient-markets hypothesis; and (3) fixing the DSGE macro model. All three were extensively discussed in the blogosphere and in generalist books, newspapers, and magazines; yet incongruously, all
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to displace the orthodoxy. In one spectacularly badly timed compromise, in 2005 Andrew Lo had sought to reconcile the findings of behavioral finance with the efficient-markets hypothesis. And most behavioral economists couldn’t care less about the layered complexity of the human soul.49 Indeed, one needn’t look far to encounter
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feeling like you had changed your economic stripes without having to change your mind, or even your models. Like the Seekers. 2) Renunciation of the Efficient Markets Hypothesis For those riding the roller coaster of 2008, and retrospectively searching for previous wrong turns, it seemed obvious to focus on the sector wherefrom disasters
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economists would look to finance theory as the prime locus of error, and rapidly settled upon a single doctrine to scapegoat, the one dubbed the efficient-markets hypothesis (EMH). Paul Krugman became a prominent spokesperson for this option in his notorious “How Did Economists Get It So Wrong?”: By 1970 or so, however
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of all possible worlds. Discussion of investor irrationality, of bubbles, of destructive speculation had virtually disappeared from academic discourse. The field was dominated by the “efficient markets hypothesis” . . . which claims that financial markets price assets precisely at their intrinsic worth given all publicly available information . . . And by the 1980s, finance economists, notably Michael
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declared, “The upside of the current Great Recession is that it could drive a stake through the heart of the academic nostrum known as the efficient-market hypothesis.”57 There was more than sufficient ammunition to choose from to rain fire down on the EMH, not least because it had been the subject
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bill, someone would have already picked it up.” This humorous example of economic logic gone awry strikes dangerously close to home for students of the Efficient Markets Hypothesis, one of the most important controversial and well-studied propositions in all the social sciences. It is disarmingly simple to state, has far-reaching consequences
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journal articles, economists have not yet reached a consensus about whether markets—particularly financial markets—are efficient or not. What can we conclude about the Efficient Markets Hypothesis? Amazingly, there is still no consensus among financial economists. Despite the many advances in the statistical analysis, databases, and theoretical models surrounding the
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Efficient Markets Hypothesis, the main effect that the large number of empirical studies have had on this debate is to harden the resolve of the proponents on each
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side [my italics]. One of the reasons for this state of affairs is the fact that the Efficient Markets Hypothesis, by itself, is not a well-defined and empirically refutable hypothesis. To make it operational, one must specify additional structure, e.g., investors’ preferences, information
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structure, business conditions, etc. But then a test of the Efficient Markets Hypothesis becomes a test of several auxiliary hypotheses as well, and a rejection of such a joint hypothesis tells us little about which aspect of the
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own interpretation of their joint effort, he took the position that the rational expectations model was identical to the approach in Hayek, that “when the efficient markets hypothesis is true and information is costly, competitive markets break down,” and that “We are attempting to redefine the Efficient Markets notion, not destroy it.”76
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never encounter anyone who might call his faith in natural healing into question. As Kirman wrote, “both the development of the DSGE model and the efficient markets hypothesis share a common feature—despite the empirical evidence and despite their theoretical weaknesses, their development proceeded as if the criticism did not exist.”94 But
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burst, the public has imbibed a seriously mistaken impression of him as some sort of economic maverick of the left. While he diffidently renounces the Efficient Markets Hypothesis, in all other matters Shiller is about as orthodox an economist as one can find nowadays. Shiller has been insisting upon the literal interpretation of
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a different register, Jagdish Bhagwati accused his Columbia colleague Joseph Stiglitz of being one of “capitalism’s petty detractors” (www.worldafairsjournal.org/articles/2009-Fall). Eugene Fama in an interview with John Cassidy of The New Yorker: “Krugman wants to be czar of the world. There are no economists that he likes
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lake, but he must know that investment banks suffered more dramatically than commercial banks” (October 9, 2009, at http://delong.typepad.com/sdj/). Paul Krugman: “Eugene Fama, at least, and perhaps Cochrane too, began this debate from a position of complete ignorance—not understanding at all the logic of Keynesian models (even
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-right membership of the Neoliberal Thought Collective: www.speaker.gov/UploadedFiles/Economists-11-8-11.pdf. A few notables: Michael Boskin (Stanford), Charles Calomiris (Columbia), Eugene Fama (Chicago), Douglas Holtz-Eakin, Jeffrey Miron (Harvard), and Barry Keating (Notre Dame). Events surrounding this incident are discussed further in chapter 5. 33 John Cochrane
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Economics”; Zingales, “Learning to Live with Not-So-Efficient Markets,” p. 1, 9. 61 http://blogs.reuters.com/felix-salmon/2009/08/11/why-the-efficient-markets-hypothesis-caught-on/: “Economists are scientists, after all. That which they can’t explain, they turn into an axiom.” 62 The following three paragraphs are ridiculously
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Equilibrium (DSGE) Model E Earhart Foundation Economic Engine of Human Progress Economic Rapture Economics Orthodoxy Dilemma role in crisis The Economist Economists’s financial flourishing Efficient Markets Hypothesis (EMH), Eggertsson, Gauti Ehrenreich, Barbara Eichengreen, Barry Eli Lilly Elizabeth, Queen of England Ellington Capital Management Emergency Economic Stabilization Act (2008) EMH
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(Efficient Markets Hypothesis), Emmanuel, Rahm “End of Neoclassical Economics” movement Epstein, Gerry Erhard, Ludwig Eternal Return European Emissions Trading System Ewing Marion Kauffman Foundation “Executive Branch Financial Disclosure
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, Irving Krueger, Anne Krugman, Paul address to European Association for Evolutionary Political Economy on Council of Economic Advisors on DSGE tradition on economic crisis on Eugene Fama and Cochrane on Fannie Mae and Freddie Mac “Fisher–Minsky” model on “flaws-and-frictions” economics followers of on “freshwater economics,” “How Did Economists Get
Transaction Man: The Rise of the Deal and the Decline of the American Dream
by Nicholas Lemann · 9 Sep 2019 · 354pp · 118,970 words
, just before Jensen arrived, Miller moved to the University of Chicago, where one of his star graduate students was Eugene Fama. Fama developed, again through complicated statistical means, what he called the “efficient market hypothesis,” which holds that well-functioning financial markets will set the price of a stock accurately, and therefore analysts who try
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missionaries sent off to work some distance from the mother church. Jensen founded an academic journal there called the Journal of Financial Economics, with himself, Eugene Fama, and Robert Merton as coeditors. The world at large still thought of the corporation as the great, all-powerful father figure in the American economy
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that a paradigm shift was arriving; several crucial papers on financial economics had also been turned down by the leading finance journals.) Jensen’s friends Eugene Fama and Robert Merton, hearing about this, decided to publish “Theory of the Firm” in the Journal of Financial Economics, which they had just started with
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their historic passivity and invest in buyouts, takeovers, and mergers. Business schools and law schools began teaching ideas like those of Jensen, Henry Manne, and Eugene Fama. Their students reoriented their ambitions away from corporate management and toward careers in outside entities that broke corporations apart, such as buyout funds and consulting
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-rate. When Jensen left for Harvard, Meckling felt betrayed and broke off their friendship forever. When a challenge to financial economics—in particular to the efficient market hypothesis—began to emerge, roughly speaking from the left, within the profession, it had two major components. One was the idea of information asymmetry: markets could
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school. Naturally, Jensen and Thaler quarreled constantly. Thaler eventually left for the University of Chicago’s business school, where he began to quarrel constantly with Eugene Fama. Once, Jensen invited Tversky to a conference at Rochester, out of a combination of curiosity and eagerness to argue with him. The two of them
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several hours together. Jensen left that encounter with the conviction that Erhard was the smartest person he had ever met—smarter than Robert Merton or Eugene Fama or Fischer Black, and possibly one of the greatest minds in history. That made it all the more vital that his work be brought before
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1978, in the introduction to a special issue of the Journal of Financial Economics devoted to his friend Eugene Fama’s efficient market hypothesis, Jensen wrote, “In the literature of finance, accounting, and the economics of uncertainty, the Efficient Market Hypothesis is accepted as a fact of life, and a scholar who purports to model behavior in a
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financial economics and Wall Street was one more development enhancing the importance of trading at Morgan Stanley. In 1986 David Booth, a former protégé of Eugene Fama’s at the University of Chicago who had gotten a job as a derivatives trader at Morgan Stanley, astonished the firm by making a $40
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from firsthand observation. Coming to the University of Chicago: This account of the birth of financial economics comes from author’s interviews with Michael Jensen, Eugene Fama, Richard Thaler, and Robert C. Merton. An excellent history of these developments is Peter L. Bernstein, Capital Ideas: The Improbable Rise of Modern Wall Street
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approach adopted by; statistical approach adopted by Economics and the Public Purpose (Galbraith) economy, ways of organizing; see also corporations; investment banking; networks Edison, Thomas efficient market hypothesis Ehrenhalt, Alan Einstein, Albert Eisenhower, Dwight, appointees of Electric Storage Battery elites; corporations founded by; at Morgan Stanley; Silicon Valley and Elmendorf, Doug El Rukns
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an Equilibrium” (Arrow and Debreu) Facebook; acquisitions by; founders of; LinkedIn vs.; misleading information on factories Fairchild Semiconductor Fair Deal Fair Housing Act Fama, Eugene; efficient market hypothesis of; journal edited by fascism Fed, see Federal Reserve Board Federal Communications Commission Federal Deposit Insurance Corporation federal government; corporations regulated by; deficit of; deposits
The Quiet Coup: Neoliberalism and the Looting of America
by Mehrsa Baradaran · 7 May 2024 · 470pp · 158,007 words
below). Yet neoliberal ideas refuse to die, a phenomenon commentators have called zombie economics. Among these undead ideas are the standard neoclassical economic models: the efficient market hypothesis, trickle-down economics, deregulation, and privatization. According to critics of zombie economics, these ideas need to be replaced with new and better “living ideas,” like
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might be—free of government, law, and of the same kinds of humans who ran governments and judiciaries. The Chicago economist and Nobel Prize winner Eugene Fama’s “efficient market hypothesis” held that market prices reflect all available information and that it was impossible to beat the market—impossible for mere mortals, that is. This
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.” Musk’s ability to influence the market and boost valuations gives the lie to one of neoliberal’s core assumptions and signal intellectual achievements: the efficient market hypothesis, discussed in chapter 7, which holds that stock prices are accurate reflections of value because they reflect all relevant information, including a company’s products
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of Universal Education, The” (J. Buchanan and Nutter), 221 economies of scale, 353 Edgewood school district (Texas), 121–22 effective altruism, 344–45 efficient markets (efficient market hypothesis), xxxvi, 128, 158–59, 164, 166, 169–70, 172, 174, 175, 193, 195, 196, 210, 215, 224, 233–34, 236, 238, 256, 258, 264, 266
Hubris: Why Economists Failed to Predict the Crisis and How to Avoid the Next One
by Meghnad Desai · 15 Feb 2015 · 270pp · 73,485 words
Lehman Brothers in September. This is nothing new. It has been known for more than forty years and is one of the main implications of Eugene Fama’s “efficient-market hypothesis” (EMH) which states that the price of a financial asset reflects all relevant, generally available information. If an economist had a formula that could
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in recent years is a clue to how unshaken the profession is in its self image. Thus in 2013 the Nobel Prize was given to Eugene Fama (Chicago), Lars Peter Hansen (Chicago) and Robert Shiller (Yale). Only Shiller is at all unorthodox, though a fully paid member of the mathematical macromodeling club
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was generating “correct” prices and could not be beaten by predictive modeling. This insight led to the idea of the efficient market hypothesis (EMH). The idea is associated with the Chicago economist Eugene Fama, who did extensive statistical research on stock prices. The result was that the change in a stock price between today and
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terms of consumer satisfaction. Hayek’s insights were ignored by the new classical economists since they viewed the market to be infallible and omniscient. The efficient market hypothesis became not just a hypothesis but also a revealed truth. Thus bubbles – the movement of the price of an asset, usually upward – were ruled out
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financial markets was fast. There was also the ideological pressure to leave markets alone as they were held to be working perfectly based on the efficient market hypothesis and rational expectations. Regulators themselves believed in these truths, as Alan Greenspan later testified when the crisis had hit. Thus regulatory systems failed en masse
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be worth $110 one day and be sold soon after for $10? Is it the case that far from all information being public as the efficient market hypothesis assumes, accounting can hide problems? On the eve of its bankruptcy, three different potential purchasers were trying to read the accounts of Lehman Brothers and
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(i) economies of scale (i) economists, research methods (i) economy changing nature of (i) equilibrium/disequilibrium (i) visions of (i) efficiency, use of term (i) efficient market hypothesis (EMH) (i), (ii), (iii) Eisenhower, Dwight D. (i) Elizabeth II (i) emerging economies (i) benefits of capital flows (i) capital inflows (i) saving and investment
Doughnut Economics: Seven Ways to Think Like a 21st-Century Economist
by Kate Raworth · 22 Mar 2017 · 403pp · 111,119 words
. FINANCE, which is infallible – so trust in its ways. Banks take people’s savings and dutifully turn them into profitable investments. Furthermore, according to Eugene Fama’s influential ‘efficient-market hypothesis’ of 1970, the price of financial assets always fully reflects all relevant information.9 Hence financial markets are ever adjusting but always ‘right’ – and
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a whole has become more resilient.’45 Four years later, the financial crash disproved that claim in a fairly decisive way. At the same time, Eugene Fama’s efficient-market hypothesis – that financial markets are inherently efficient – lost credibility and has been countered by Hyman Minsky’s financial-instability hypothesis – that financial markets are inherently
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, 8, 11, 18, 22, 24, 36, 287–93 environmental, 115, 239–40 girls’, 57, 124, 178, 198 online, 83, 197, 264, 290 pricing, 118–19 efficient market hypothesis, 28, 62, 68, 87 Egypt, 48, 89 Eisenstein, Charles, 116 electricity, 9, 45, 236, 240 and Bangla Pesa, 186 cars, 231 Ethereum, 187–8 and
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, 140, 141, 145–7 cross-border flows, 89 deregulation, 87 derivatives, 100–101, 149 and distribution, 169, 170, 173, 182–4, 198–9, 201 and efficient market hypothesis, 63, 68 and Embedded Economy, 71, 86–8 and financial-instability hypothesis, 87, 146 and GDP growth, 38 and media, 7–8 mobile banking, 199
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, 234–7 stakeholder finance, 190 and sustainability, 216, 235–6, 239 financial crisis (2008), 1–4, 5, 40, 63, 86, 141, 144, 278, 290 and efficient market hypothesis, 87 and equilibrium theory, 134, 145 and financial-instability hypothesis, 87 and inequality, 90, 170, 172, 175 and money creation, 182 and worker’s rights
The Economics of Enough: How to Run the Economy as if the Future Matters
by Diane Coyle · 21 Feb 2011 · 523pp · 111,615 words
its impact on policy and decisions. Financial economics has been particularly influential in this respect. Mackenzie and his coauthors single out the influence of Eugene Fama’s efficient markets hypothesis, which says that stock market prices capture all available information about the value of the shares and investment managers can never consistently beat the market
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: The efficient market hypothesis is not simply an analysis of financial markets as “external” things but has become woven into market practices. Most important, it helped inspire the establishment
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them. The theory created the reality of the market. Needless to say, the financial crisis has severely undermined belief in the validity of the efficient markets hypothesis—although its creator, Eugene Fama, remains adamant that the theory is empirically correct. In a 2009 interview, he said: Prices are good estimates of the underlying value of
The Road to Ruin: The Global Elites' Secret Plan for the Next Financial Crisis
by James Rickards · 15 Nov 2016 · 354pp · 105,322 words
1947. Monetarism has been intellectually dominant for about sixty years since it emerged from the University of Chicago under Milton Friedman in the 1960s. Eugene Fama’s efficient markets hypothesis percolated in academic studies in the 1960s, yet only started to exert market influence in the 1970s with the options pricing model of Fischer Black
Expected Returns: An Investor's Guide to Harvesting Market Rewards
by Antti Ilmanen · 4 Apr 2011 · 1,088pp · 228,743 words
5 - Rational theories on expected return determination 5.1 THE OLD WORLD 5.2 THE NEW WORLD 5.3 DETOUR: A BRIEF SURVEY OF THE EFFICIENT MARKETS HYPOTHESIS 5.4 NOTES Chapter 6 - Behavioral finance 6.1 LIMITS TO ARBITRAGE 6.2 PSYCHOLOGY 6.3 APPLICATIONS 6.4 CONCLUSION 6.5 NOTES Chapter
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Park. I earned my finance doctorate at the University of Chicago Business School (now the Booth School of Business) in the early 1990s, with Professors Eugene Fama and Kenneth French as my dissertation chairmen. In many minds this background puts me squarely in the efficient markets’ camp. However, we Chicago finance students
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DJ CS Dow Jones Credit Suisse DMS Dimson–Marsh–Staunton D/P Dividend/Price (ratio), dividend yield DR Diversification Return E( ) Expected (conditional expectation) EMH Efficient Markets Hypothesis E/P Earnings/Price ratio, earnings yield EPS Earnings Per Share ERP Equity Risk Premium ERPB Equity Risk Premium over Bond (Treasury) ERPC Equity Risk
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. Then, three decades of pioneering research brought about an academic consensus view that relatively simple theories employing highly restrictive assumptions—the single-factor CAPM, the efficient market hypothesis, constant risk premia—could explain asset prices and expected returns:• A starting point in finance is that investors set prices so that an asset’s
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over cash. • Expected returns can vary over time due to rationally time-varying risk or risk aversion and due to investor irrationality and sentiment. • The efficient markets hypothesis has been challenged by various anomalies and financial crises but its main implication—that beating the market is very difficult—remains valid for most investors
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fair values, inducing short-term momentum and long-term reversal patterns. 5.3 DETOUR: A BRIEF SURVEY OF THE EFFICIENT MARKETS HYPOTHESIS Before turning to behavioral finance, it is appropriate to briefly survey the efficient markets hypothesis (EMH). The classic statement from Fama (1970) is that markets are informationally efficient if “prices reflect all available information
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), on market frictions Garleanu–Pedersen (2009a), on liquidity Acharya–Pedersen (2005), on disagreement Hong–Stein (2007), and on information asymmetries Vayanos–Woolley (2008). On the efficient markets hypothesis, I recommend Fama’s surveys (1970, 1991, 1998), on extensions Grossman–Stiglitz (1980) and Lo (2004), on the many criticisms Soros (2008), Akerlof–Shiller (2009
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as lotteries and the cross-section of expected returns,” forthcoming in the Journal of Financial Economics. Ball, Ray (2009), “The global financial crisis and the efficient market hypothesis: What have we learned?” Journal of Applied Corporate Finance, 21(4), 8–16. Bank Credit Analyst (2009), “More thoughts on the debt supercycle: The final
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valuation drivers forward-looking indicators measures choices relative valuation value measures economic growth see also growth efficiency behavioral finance macro-inefficiencies market inefficiency micro-inefficiencies efficient markets hypothesis (EMH) elephant and blind men poem (Saxe) EMBI indices emerging markets carry strategies currency carry debt equity returns future trends growth EMH see
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efficient markets hypothesis empirical multi-factor finance models endogenous return and risk feedback loops market timing research endowments energy sector commodity momentum trend following volatility selling enhancing returns
Capital Ideas: The Improbable Origins of Modern Wall Street
by Peter L. Bernstein · 19 Jun 2005 · 425pp · 122,223 words
assistance from the people named below. The book could never have taken shape without the participation of the people whose work it describes: Fischer Black, Eugene Fama, William Fouse, Hayne Leland, Harry Markowitz, John McQuown, Robert C. Merton, Merton Miller, Franco Modigliani, Barr Rosenberg, Mark Rubinstein, Paul Samuelson, Myron Scholes, William Sharpe
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. No one knows who first used this expression, but it became increasingly familiar among academics during the 1960s, much to the annoyance of financial practitioners. Eugene Fama of the University of Chicago, one of the first and most enthusiastic proponents of the concept, tells me that random walk “is an ancient statistical
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Hamilton was anticipating a radical concept that was to appear long after his death. In the 1960s, a group of college professors would develop the Efficient Market Hypothesis, based on the notion that stock prices reflect all available information about individual companies and about the economy as a whole. The
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Efficient Market Hypothesis, however, also looks back to Bachelier, for it assumes that information is so rapidly reflected in stock prices that no single investor can consistently know
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technology were making data manipulation faster, cheaper, and more effective. This development was stimulating for younger faculty members though troublesome for their older colleagues. Economist Eugene Fama, who earned his doctorate at Chicago in 1964, recalls those days with a gleam in his eye. The IBM 709, which he characterizes as “the
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High P.Q. 215 egotistical orangutans with 20 straight winning flips. The man who went furthest to take Samuelson’s ideas into richer territory was Eugene Fama, a third-generation Italian-American from Boston. Like Samuelson, Fama wanted to consolidate what was known about the behavior of stock prices into a comprehensive
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increasingly abrasive view among academics of the skills of professional managers, Fama asserts: . . . [W]e shall contend that there is no important evidence against the [efficient market] hypothesis in the weak and semi-strong form tests . . . and only limited evidence against the hypothesis in the strong form tests (i.e., monopolistic access to
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they are worth.a If deviations between price and value were large, more people would get rich from trading than from buy-and-hold. The efficient market hypothesis gives the benefit of the doubt to buy-and-hold. Yet the case is not open and shut. Before we throw in the sponge and
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senior author that this overemphasis is at once the delusion and the nemesis of the world of finance.”19 How did Graham feel about the efficient market hypothesis? “I am sure they are all very hardworking and serious,” he answered, referring to the academic proponents of the efficient market and random walk. But
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Chicago, where the “old guys” gathered periodically to talk about research. Those “old guys” included Merton Miller from Carnegie Tech and James Lorie from Chicago. Eugene Fama, a young recruit, was also there that day. Even now, Sharpe wonders, “God knows how they heard of me.”29 He made a sufficient impression
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Professor of Finance at Yale. Although some tests of its applicability have been inconclusive, Ross and an associate from UCLA, Richard Roll—a protégé of Eugene Fama at Chicago and a distinguished theorist in his own right—are using it with success to manage several billion dollars of clients’ money. APT differs
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enter the Ph.D. program at Chicago. Scholes’s doctoral dissertation was an original and powerful piece of theoretical and empirical research that supported the efficient market hypothesis. He took as his subject the impact on the market of large sales of stock by major holders. Scholes argued that investors are more interested
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and to play down widespread alarm at these developments. He played a critical role in shaping the careers of such younger scholars as Fischer Black, Eugene Fama, Myron Scholes, William Sharpe, and Jack Treynor. In the mid-1950s, the investment course at Harvard Business School was so boring students dubbed it “Darkness
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ideas to economists. They titled the paper “Capital Market Equilibrium and the Pricing of Corporate Liabilities.” At this point they received help from another quarter. Eugene Fama and Merton Miller had been aware of their work, had given them extensive comments on it, and were following their publishing ordeal. Now these two
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at the Journal of Political Economy. That did the trick. Throughout this story, Merton Miller has played the role of power-broker. He had encouraged Eugene Fama, still a novice, to teach entirely new material. He had guided Scholes into finance. He had introduced Treynor to Modigliani. He had immediately recognized Sharpe
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. McQuown’s family lived in Chicago, and he had been introduced to the theory by friends at the University, particularly Lawrence Fisher, James Lorie, and Eugene Fama (still a graduate student), whose work first attracted his attention when they began to release their findings on rates of return on equities. Through them
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of risk control. Franco Modigliani and Merton Miller emphasized the critical role played by arbitrage in determining the value of securities. And Paul Samuelson and Eugene Fama were there to remind investors that, in an unpredictable market, they had better not venture forth unprepared. Preparation for unpredictable situations is what LOR is
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are still relatively uncommon. Another line of analysis indicates that the market is becoming more, rather than less, efficient. Fama’s theoretical work on the efficient market hypothesis, and Alexander’s empirical study of market behavior, both argued that in an efficient market changes in stock prices would be random rather than occurring
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in a journal read only by academics. The astronomer Osborne chooses an obscure Navy Department publication for his thoughts on “the epitome of unrelieved bedlam.” Eugene Fama deserts the football field for the academic groves of Chicago, where he confirms Alfred Cowles’s gloomy view that portfolio managers who try to beat
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