# EMH is BS

So I’m reading reading 13. It’s quite interesting. “prices are right”: please define right. Fundamental value is the discounted sum of expected future cash flows … okay, I’m fine with the fact that everyone can have his belief of one particular company as to how it will perform in the future, but how can one say who is correct? It’s FUTURE cash flows. No one can predict it perfectly or even give a “correct” probability distribution of future cash flows. So there is no such thing as “correct” fundamental value but only fundamental value under someone’s belief (the probability distribution of the cash flows). They keep talking about fundamental value but why don’t they pick up a company and calculate the fundamental value of that stock and they will see how rough their calculation will be. Anyone here with me?

Not me. EMH says that prices are unbiased not “right”. That whole notion of predict it perfectly is just a non-sequitor. “Unbiased” is about estimators in the face of randomness. If they gave you precise definitions about what they meant by EMH everyone would flip out (you would be talking about filtrations on probability spaces and martingale measures).

On a similar note: When I was a math professor at honors exams, I used to ask senior honors math majors what were the fundamental theorems of arithmetic, algebra, and calculus because it seemed that math majors ought to know those things. How many CFA charterholders or L III candidates know what the fundamental theorem of asset pricing is?

Hey Joey!! This is somehow what I was wondering. I don’t know what the fundamental theorem of asset pricing is. Though I didn’t have any claims for that, as I consider myself at the infancy level with regard to finance. So as anybody who is at the infancy level, I just mirror. The latest theory I learned seems the most influential. However, with the EMH my feelings are a little bit mixed from the start. “Prices reflect all the available information.” In this statement which baffles me is the definition of the information. Here information is not synonymous with the “facts”. Facts should be related to the current, but price reflects future prospects. The future repercussions of the facts of today do not seem like an issue that will lend itself to consensus easily.

Weak form of EMH is feasible. The strong form is clearly incorrect

A very naive, yet to my best knowledge, the most important fundmental for asset pricing is a no arbitrage condition or a risk nuetral condition. My kid brother studies financial engineering and he talks similar lingo like Joey:)…a lay man like me understands it this way:)…Please correct me if am wrong.

sid3699 Wrote: ------------------------------------------------------- > A very naive, yet to my best knowledge, the most > important fundmental for asset pricing is a no > arbitrage condition or a risk nuetral condition. > My kid brother studies financial engineering and > he talks similar lingo like Joey:)…a lay man like > me understands it this way:)…Please correct me if > am wrong. That would almost do it for me in one of those honors exams. At least he has heard it and could get it by picking up the book. I’m not a big fan of EMH myself and at the fringes I think it’s certainly not true. The “prices reflect all information” there really isn’t a precise definition of information there (although I suppose I could make up some messed up definition of it). It really says that you can’t find some information that when applied to individual securities systematically lets you outperfrom the market or predict security prices better than the market.

EMH is like many other fundamental financial theories. Alone, they all don’t make much sense based on the implicit assumptions used in the theories. however, as a group (rememer, level III, think of the portfolio as a whole!!) the theories work together to show how the world works. I think EMH is crap in real life, but so are many others. Like a DCF and rational investors.

strikershank, “rational investors” I like that one!!!

JoeyDVivre Glad you are here to discuss this with me! First, let’s say we don’t need to predict perfectly. But given a piece of information of a company, how can we define or find out the “unbiased” interpretation of that information and turn it into a fundamental price? This procedure is very important to me as it’s the building block of the whole finance theory. If we can’t find the fundamental price even under a simple example, how can we build up anything from there? Even with advanced probability tools, I don’t think it’s possible to define the fundamental price. People usually use the expected discounted payoff under a (or the if the market is complete) local equivalent martingale measure but then how to find out that measure is totally another story. My point is, if you can show me how to find out for an example then probably something is not clear. They always make it too theoretical. There is a something I don’t like about math. Many math guys can prove the theorem for the most general case but fail to solve the problem in a specific and concrete example.