Efficient Market Hypothesis: R.I.P.
By Elliott Wave International - August 19, 2010
Of all the belief systems of Wall Street, few can claim the devoted following of the Efficient Market Hypothesis,
the idea that stock prices adhere to the same laws of supply-and-demand that govern retail products. Once coined
the theoretical "Parthenon" of economics, this notion has consistently endured the test of time ----- until
now. Academics and advisors across the globe are currently exposing crack after crack in the "Efficient"
model so deep as to bring the entire theory crashing to the ground.
"The EMH is not only dead," writes a July 29, 2010 news source. "It's really, most sincerely dead."
As to what caused the theory's collapse -- one recent business journal offers this insight:
"Financial markets do not operate the same way as those for other goods and services. When the price of a
television set or software package goes up, demand for it generally falls. When the prices of a financial asset
rises, demand generally rises." (The Economist)
Here's the thing. SIX years ago, Elliott Wave International president Bob Prechter pronounced the exact same
finding in his April 2004 Elliott Wave Theorist. (Read that full-length publication today, absolutely free
by clicking on the hyperlink) In that groundbreaking report, Bob presented the compelling picture below that
shows how investors increase their percentage of stock holdings as prices rise, and decrease them as prices
The next question is why? Answer: Motivation: i.e. the purchase of goods and services is about need; while the
purchase of stocks is about desire. Here, Bob Prechter's 2004 Theorist takes the rein:
"The fact is that everyday in finance, investors are uncertain. So they look to the herd for guidance. Because
herds are ruled by the majority -- financial market trends are based on little more than the shared mood of
investors -- how they feel -- which is the province of the emotional areas of the brain (limbic system), not
the rational ones (neocortex)... Buyers, in a rising market appear unconsciously to think, 'The herd must know
where the food is. Run with the herd and you will prosper.' Sellers in a falling market appear to unconsciously
think, 'The herd must know that there's a lion racing toward us. Run with the herd or you will die.'"
Prechter and contributor Wayne Parker then expanded on his landmark observation in the 2007 Journal of Behavioral Finance. (Also available, absolutely free by clicking on the
In the end, it's not enough to just tear down the long-standing EMH. One must build another, more accurate model up
in its place. And in the 2004 Theorist, Bob Prechter does just that with the Wave Principle, which
reconciles the technical and psychological sides of stock market behavior into this key point: Herding impulses,
while not rational, are also NOT random. They unfold in clear and calculable wave patterns as reflected in the
price action of financial markets.
As the mainstream media continues to jump on board Prechter's Financial/Economic Dichotomy Theory, you can read
both of Prechter's original writings. Enjoy your complimentary access to the 2004 April 2004 Elliott Wave Theorist
and the 2007 Journal of Behavioral Finance.
Read some of the latest nuggets directly from Robert Prechter's desk -- FREE. Click here to
download a free report packed with recent quotes from Prechter's Elliott Wave Theorist.
This article was syndicated by Elliott Wave International and was originally published under the
headline Efficient Market Hypothesis: R.I.P.. EWI is the world's largest market
forecasting firm. Its staff of full-time analysts lead by Chartered Market Technician Robert
Prechter provides 24-hour-a-day market analysis to institutional and private investors around the
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