Overview
The market efficiency and models such as the Capital Asset Pricing Model suggest that investors need not actively trade their portfolio. Rather, they only need to select a level of risk, and rebalance their portfolio to their risk target.
However, given the sheer number and size of markets and market participants, it is clearly true that there is a market for finding and trading market market efficieny failures. This page lists some examples of what are believed to be market inefficiencies.
Market Efficiency Failures
Within the context of the market efficiency hypothesis, there are factors that may affect whether the market is actually efficient.
- Market Volume - it is generally believed that markets that trade in large volume are more efficient than assets that dont trade often, in small volume. This might imply for instance, that large cap stocks are more efficient than small cap.
- Presence of a Centralized Market - assets that trade on open exchanges with many participants are likely to be efficient. Assets, such as housing or real estate might therefore represent an opportunity to capitalize on market inefficiencies.
- Value Disruptions - when an event occurs that causes a notable spike or drop in the value of an asset may represent a non-efficient price. The mechanism of price discovery is likely to take some time to play out. Participants will also be affected by cognitive biases such as anchoring.
- Follow the Leader Markets - when the market is following the recommendation of a single influential analyst, it is believed that the wisdom of crowds has been short-circuited. (see Sonkin)