CFA Level IEquity InvestmentsMedium
A market is found to be weak-form efficient based on empirical tests. Which of the following statements is most accurate regarding this finding?
- AStock prices instantly and fully reflect all publicly available information
- BInsider information cannot be used to earn abnormal trading profits
- CFundamental analysis of financial statements cannot generate abnormal returns
- DTechnical analysis based on past price and volume data should not generate consistent abnormal returns
Show answer & explanationAnswer & explanation
Correct answer: D. Technical analysis based on past price and volume data should not generate consistent abnormal returns
Weak-form efficiency states that current prices fully reflect all past market data, including historical prices and trading volume. This implies that technical analysis, which relies on past price/volume patterns, cannot consistently generate abnormal returns, but it says nothing about fundamental or private information.
Why the other options are wrong
- A. This overstates weak-form efficiency, which only pertains to historical market data, not all public information.
- B. This describes strong-form efficiency, which concerns private/insider information.
- C. This describes semi-strong-form efficiency, which concerns public information including fundamentals.
Weak-form market efficiency
A market condition where security prices fully reflect all past trading information (prices and volume), implying technical analysis cannot generate abnormal returns.
- Weak form: past prices/volume already reflected
- Semi-strong form: all public information reflected
- Strong form: all information, public and private, reflected
Memory trick: Weak beats charts, semi-strong beats news, strong beats even secrets.