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Capital Market Efficiency Hypotheses: Observations in Croatia - Essay Example

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The author analyzes stock market efficiency hypotheses and applied the same as per experiences in Croatia. The author presents an understanding of Capital Market Efficiency Hypotheses and applies the understanding from Croatian perspective that corporations cannot fool the markets using accounting. …
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Capital Market Efficiency Hypotheses: Observations in Croatia
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Download file to see previous pages The internal information being revealed to the stock markets is termed as "dimensions of signal space" whereby empirical researches suggest that a smaller relative signal space for a large number of assets result in fully revealing equilibrium prices.
However, Jordon (1983. pp1325-1327) proved that efficient market hypotheses cannot be viewed from the ideal perspective whereby the signals (of internal information) and the corresponding return on assets need not be normal if the dimension of signal space is larger for a smaller number of assets. In such cases, the researcher argued that the market equilibrium is generally inconsistent with the efficient market hypotheses. If investors are risk neutral, the equilibrium price of each asset can be equal to its expected returns. However, investors do have risk aversion - in the form of relative risk aversion and constant risk aversion. Each signal, when known to the investors adds to the risk perception thus affecting the return from the asset - positively or negatively - depending upon how the signal has been perceived. Beaver (1981. pp23-26) described the phenomenon of "incomplete markets" whereby the expectations are formed on future prices based on informal signals and the equilibrium is characterized as dependent upon these expectations that have formed from the informal signals. In growth times (bull markets) or during uncertainty (bear markets) the polarity of the signals automatically changes as a result of relative risk aversion of the investors. Hence, during bull markets, even the companies not rated high may still enjoy a rally and during bear markets, even the best-performing companies may suffer crash of security prices. Beaver (1981. pp23-26) suggest that during uncertainty, the mapping from the endowments, and individual preferences & belief in the prices drive the capital market equilibrium.  ...Download file to see next pagesRead More
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