Define three forms of Market efficiency and explain them.

Three forms of market efficiency:

~ The Efficient Market Hypothesis (EMH) is a theory that suggests that an investor cannot earn risk adjusted abnormal profits, that is, an investor cannot beat the market, because the markets are efficient.

~ There are three forms of efficiency as per EMH - Weak form, Semi-strong form, Strong form.

~ Weak form efficiency:

~ Weak form of EMH claims that if the market is weak form efficient, then an investor cannot earn risk adjusted abnormal profits with the help of past price and volume data, that is, with technical analysis.

~ Weak form suggests that it is not possible to earn abnormal profits with the use of technical analysis.

~ This is because the weak form of EMH assumes that all the past information is already incorporated and reflected in the current market prices of stocks. Therefore, past price and volume data (technical analysis is not useful to earn excess profits.)

~ However, if the markets are weak form efficient, then it is possible to beat the market with fundamental analysis or insider trading.

~ Semi-strong form efficiency:

~ Semi strong form efficiency claims that if the markets are semi strong efficient, then investors cannot earn abnormal profits using either technical or fundamental analysis.

~ This is because semi strong form efficiency assumes that all the public information - both past and present - is already reflected in the market prices of stocks.

~ However, if the markets are semi strong form efficient, it is still possible to earn excess profits with insider trading.

~ Strong form efficiency:

~ As per strong form of EMH, if the markets are strong form efficient, then risk adjusted abnormal profits cannot be earned with technical analysis, or fundamental analysis, or with insider trading.

~ As per strong form efficiency, all the information - past and present, public and insider information - is already reflected in the stocks' market prices.

~ Therefore, if the markets are strong form efficient, it is not possible to beat the market with any kind of analysis.