Efficient-Market Hypothesis

The efficient-market hypothesis concerns how asset prices reflect a specified information set and whether that information permits systematic abnormal returns under an appropriate return model. Weak, semi-strong, and strong forms use progressively broader information sets. Efficiency does not imply that prices equal an objectively certain fair value.

The efficient-market hypothesis relates prices to an information set: past prices in the weak form, public information in the semi-strong form, and all information in the strong form. It asks whether strategies based on that information can systematically earn abnormal returns under a specified model. It does not mean that every observed price equals an objectively knowable fair value.

Testing efficiency also tests assumptions about risk and normal expected returns. A strategy's apparent excess profit may reflect risk exposure, omitted costs, chance, or a selected backtest, but a poor explanation of risk can also obscure useful evidence. Treat an alleged edge as a testable claim with a benchmark and costs, rather than assuming either universal efficiency or effortless exploitable error.

When to use it

When assessing claims of abnormal trading performance, examining how public information enters prices, or interpreting empirical tests of investment strategies.

How it can help

Evaluate claimed advantages by specifying information, timing, a benchmark, risk, costs, and evidence beyond selected historical examples. Keep the hypothesis and the assumptions used to estimate normal returns visible.