TRADING HISTORY
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From experience we know that investors may temporarily
pull financial prices away from their long term trend level. Over-reactions
may occur— so that excessive optimism (euphoria) may drive prices unduly
high or excessive pessimism may drive prices unduly low. New theoretical and
empirical arguments have been put forward against the notion that financial
markets are efficient.
According to the efficient market hypothesis (EMH), only changes in
fundamental factors, such as profits or dividends, ought to affect share
prices. (But this largely theoretic academic viewpoint also predicts that
little or no trading should take place— contrary to fact— since prices are
already at or near equilibrium, having priced in all public knowledge.) But
the efficient-market hypothesis is sorely tested by such events as the stock
market crash in 1987, when the Dow Jones index plummeted 22.6 percent — the
largest-ever one-day fall in the United States. This event demonstrated that
share prices can fall dramatically even though, to this day, it is
impossible to fix a definite cause: a thorough search failed to detect any
specific or unexpected development that might account for the crash. It also
seems to be the case more generally that many price movements are not
occasioned by new information; a study of the fifty largest one-day share
price movements in the United States in the post-war period confirms this.
Moreover, while the EMH predicts that all price movement (in the absence of
change in fundamental information) is random (i.e., non-trending), many
studies have shown a marked tendency for the stock market to trend over time
periods of weeks or longer.
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