Skip to main content
SpringerLink
Log in

Adaptive Markets Hypothesis

  • Chapter
  • First Online:
Risk-Return Relationship and Portfolio Management

Part of the book series: India Studies in Business and Economics ((ISBE))

Abstract

The purpose of the study is to critically examine the empirical evidence of Efficient Market Hypothesis (EMH) that pose challenges to the concept of perpetual informational efficiency of financial markets and to provide a context in which a better understanding of behavioural biases can be attained through the evolutionary perspective provided by Adaptive Market Hypothesis (AMH). The defence proffered to various anomalies of EMH has been examined and the weaknesses in the justification provided to reinstate the confidence in the concept of informational efficiency of markets have been re-emphasized. We find that EMH is a description of an ideal scenario of stock market functionality; however, real world is rarely as ideal. Financial markets are a creation of human beings without any restrictions to the selection of market participants. EMH is very abstract in its framework and does not accommodate the possibility of an alternative to informational efficiency in which market inefficiency can persist. It is observed that AMH provides a better financial paradigm than EMH to describe the behaviour of stock returns.

A man always has two reasons for what he does—a good one, and the real one.

J. P. Morgan

The content of this chapter was published previously (Dhankar & Shankar, 2016) and was co-authored by Devesh Shankar, Faculty of Management Studies, University of Delhi, Delhi, India; re-used here with permission.

This is a preview of subscription content, log in via an institution to check access.

Access this chapter

Log in via an institution
Chapter
USD 29.95
Price excludes VAT (USA)
  • Available as PDF
  • Read on any device
  • Instant download
  • Own it forever
eBook
USD 99.00
Price excludes VAT (USA)
  • Available as EPUB and PDF
  • Read on any device
  • Instant download
  • Own it forever
Hardcover Book
USD 129.99
Price excludes VAT (USA)
  • Durable hardcover edition
  • Dispatched in 3 to 5 business days
  • Free shipping worldwide - see info

Tax calculation will be finalised at checkout

Purchases are for personal use only

Institutional subscriptions

Notes

  1. 1.

    Although, Fama (1991) tried to reclassify the levels of informational efficiency as Tests of return predictability, Event Studies and Tests for private information, respectively; the initial categorization is the most widely recognized. Informational efficiency, commonly referred to as market efficiency , represents the ability of stock prices to fully reflect all available information.

  2. 2.

    Each distinct group of market participant represents a group of investors that behave in a common manner. For example, pension funds, hedge funds, market makers and retail investors (Lo, 2004).

  3. 3.

    Lo (2012) refers to the six-decade period (1940s—early 2000s) that followed the Great Depression of 1930s as the period of ‘Great Modulation’.

  4. 4.

    R/S statistic also called ‘Rescaled Range’ is a popular way to detect long-range dependence and is calculated by dividing the range of values by the standard deviation.

  5. 5.

    Turn-of-the-month (TOTM) effect is the phenomenon in which rise in stock prices is observed during TOTM interval, i.e. last few and first few days of the month.

  6. 6.

    Halloween effect is the phenomenon in which the month of May is the best time to divest from stock markets as stocks accumulate significant capital gains only over the six month period from November to April.

References

  • Abdmoulah, W. (2010). Testing the evolving efficiency of Arab stock markets. International Review of Financial Analysis, Elsevier Inc., 19(1), 25–34.

    Google Scholar 

  • Banz, R. W. (1981). The relationship between return and market value of common stocks. Journal of Financial Economics, 9(1), 3–18.

    Article  Google Scholar 

  • Basu, S. (1977). Investment performance of common stocks in relation to their price-earnings ratios: A test of the efficient market hypothesis. Journal of Finance.

    Google Scholar 

  • Cajueiro, D. O., & Tabak, B. M. (2004a). Evidence of long range dependence in Asian equity markets: The role of liquidity and market restrictions. Physica A: Statistical Mechanics and its Applications, 342(3–4), 656–664.

    Article  Google Scholar 

  • Cajueiro, D. O., & Tabak, B. M. (2004b). Ranking efficiency for emerging equity markets. Chaos, Solitons & Fractals, 22(2), 349–352.

    Article  Google Scholar 

  • Cajueiro, D. O., & Tabak, B. M. (2004c). The Hurst exponent over time: Testing the assertion that emerging markets are becoming more efficient. Physica A: Statistical Mechanics and its Applications, 336(3–4), 521–537.

    Article  Google Scholar 

  • Daniel, K., & Titman, S. (1999). Market efficiency in an irrational world. Financial Analysts Journal, 55(6), 28–40.

    Article  Google Scholar 

  • De Bondt, W. F. M., & Thaler, R. (1985). Does the stock market overreact? Journal of Finance, 40(3), 793–805.

    Article  Google Scholar 

  • Dhankar, Raj S., & Shankar, D. (2016). Relevance and evolution of adaptive markets hypothesis: A review. Journal of Indian Business Research, 8(3), 166–179. https://doi.org/10.1108/JIBR-12-2015-0125.

    Article  Google Scholar 

  • Emerson, R., Hall, S. G., & Zalewska-Mitura, A. (1997). Evolving market efficiency with an application to some bulgarian shares. Economics of Planning, 30(2–3), 75–90.

    Article  Google Scholar 

  • Fama, E. F. (1970). Efficient capital market: A review of theory and empirical work. Journal of Finance, 25(2), 383–417.

    Article  Google Scholar 

  • Fama, E. F. (1991). Efficient capital markets: II. Journal of Finance, 46(5), 1575–1617.

    Article  Google Scholar 

  • Fama, E. F. (1998). Market efficiency, long-term returns, and behavioral finance. Journal of Financial Economics, 49(3), 283–306.

    Article  Google Scholar 

  • French, K. R. (1980). Stock returns and the weekend effect. Journal of Financial Economics, 8(1), 55–69.

    Article  Google Scholar 

  • Ghazani, M. M., & Araghi, M. K. (2014). Evaluation of the adaptive market hypothesis as an evolutionary perspective on market efficiency: Evidence from the Tehran stock exchange. Research in International Business and Finance, Elsevier B.V., 32, 50–59.

    Google Scholar 

  • Grossman, B. S. J., & Stiglitz, J. E. (1980). On the impossibility of informationally efficient markets. American Economic Review, 70(3), 393–408.

    Google Scholar 

  • Harris, L., & Gurel, E. (1986). Price and volume effects associated with changes in the S&P 500 list: New evidence for the existence of price pressures. The Journal of Finance, 41(4), 815–829.

    Article  Google Scholar 

  • Hiremath, G. S., & Kumari, J. (2014). Stock returns predictability and the adaptive market hypothesis in emerging markets: Evidence from India. SpringerOpen Journal, 3(428), 1–14.

    Google Scholar 

  • Ito, M., & Sugiyama, S. (2009). Measuring the degree of time varying market inefficiency. Economics Letters, Elsevier B.V., 103(1), 62–64.

    Google Scholar 

  • Jefferis, K., & Smith, G. (2005). The chaging efficiency of African stock markets. South African Journal of Economics, 73(1), 54–67.

    Article  Google Scholar 

  • Jegadeesh, N., & Titman, S. (1993). Returns to buying winners and selling losers: Implications for stock market efficiency. The Journal of Finance, 48(1), 65–91.

    Article  Google Scholar 

  • Jensen, M. C. (1978). Some anomalous evidence regarding market efficiency. Journal of Financial Economics, 6(2/3), 95–101.

    Article  Google Scholar 

  • Kim, J. H., Shamsuddin, A., & Lim, K. P. (2011). Stock return predictability and the adaptive markets hypothesis: Evidence from century-long U.S. data. Journal of Empirical Finance, Elsevier B.V., 18(5), 868–879.

    Google Scholar 

  • Li, X. (2003). China: Further evidence on the evolution of stock markets in transition economies. Scottish journal of political economy, 50(3), 341–358.

    Article  Google Scholar 

  • Lim, K. P. (2007). Ranking market efficiency for stock markets: A nonlinear perspective. Physica A: Statistical Mechanics and its Applications, 376(1–2), 445–454.

    Article  Google Scholar 

  • Lim, K., & Brooks, R. (2011). The evolution of stock market efficiency over time: A survey of the empirical literature. Journal of Economic Surveys, 25(1), 69–108.

    Article  Google Scholar 

  • Lim, K.-P., Luo, W., & Kim, J. H. (2013). Are US stock index returns predictable? Evidence from automatic auto-correlation-based tests. Applied Economics, 45(8), 953–962.

    Article  Google Scholar 

  • Lo, A. W. (2004). The adaptive markets hypothesis. The Journal of Portfolio Management, 30(5), 15–29.

    Article  Google Scholar 

  • Lo, A. W. (2005). Reconciling efficient markets with behavioral finance: The adaptive markets hypothesis. Journal of Investment Consulting, 7(2), 21–44.

    Google Scholar 

  • Lo, A. W. (2012). Adaptive markets and the new world order. Financial Analysts Journal, 68(2), 19–29.

    Article  Google Scholar 

  • Lo, A. W. (2017). Quoted by Nathan Jaye in The adaptive markets hypothesis: A financial ecosystems survival guide. Posted in Behavioural Finance, Economics, Portfolio Management, Risk Management—December 18, 2017.

    Google Scholar 

  • Malkiel, B. G. (2003). The efficient market hypothesis and its critics. The American Economic Association, 17(1), 59–82.

    Google Scholar 

  • Manahov, V., & Hudson, R. (2014). A note on the relationship between market efficiency and adaptability—New evidence from artificial stock markets. Expert Systems with Applications, Elsevier Ltd, 41(16), 7436–7454.

    Article  Google Scholar 

  • Popovic, S., Mugosa, A., & Durovic, A. (2013). Adaptive markets hypothesis: Empirical evidence from montenegro equity market. Economic Research, 26(3), 31–46.

    Google Scholar 

  • Rockinger, M., & Urga, G. (2000). The evolution of stock markets in transition economies. Journal of Comparative Economics, 28(3), 456–472.

    Article  Google Scholar 

  • Rozeff, M. S., & Kinney, W. R. (1976). Capital market seasonality: The case of stock returns. Journal of Financial Economics, 3(4), 379–402.

    Article  Google Scholar 

  • Samuelson, P. A. (1965). Proof that properly anticipated prices fluctuate randomly. Industrial Management Review, 6(2), 41–50.

    Google Scholar 

  • Saunders, E. M. J. (1993). Stock prices and wall street weather. American Economic Review, 83(5), 1337–1345.

    Google Scholar 

  • Shiller, R. J. (2003). From efficient markets theory to behavioral finance. Journal of Economic Perspectives, 17(1), 83–104.

    Article  Google Scholar 

  • Todea, A., Ulici, M., & Silaghi, S. (2009). Adaptive markets hypothesis: Evidence from Asia-Pacific financial markets. The Review of Finance and Banking, 1(1), 7–13.

    Google Scholar 

  • Urquhart, A., & Hudson, R. (2013). Efficient or adaptive markets? Evidence from major stock markets using very long run historic data. International Review of Financial Analysis, Elsevier Inc., 28(C), 130–142.

    Google Scholar 

  • Urquhart, A., & McGroarty, F. (2014, October). Calendar effects, market conditions and the adaptive market hypothesis: Evidence from long-run U.S. data. International Review of Financial Analysis, Elsevier Inc., 35, 154–166.

    Google Scholar 

  • Zalewska-Mitura, A., & Hall, S. G. (1999). Examining the first stages of market performance: A test for evolving market efficiency. Economic Letters, 64(1), 1–12.

    Article  Google Scholar 

Download references

Author information

Authors and Affiliations

  1. Faculty of Management Studies (FMS), University of Delhi, New Delhi, Delhi, India

    Raj S. Dhankar

Authors
  1. Raj S. Dhankar
    View author publications

    You can also search for this author in PubMed Google Scholar

Corresponding author

Correspondence to Raj S. Dhankar .

Rights and permissions

Reprints and permissions

Copyright information

© 2019 Springer Nature India Private Limited

About this chapter

Check for updates. Verify currency and authenticity via CrossMark

Cite this chapter

Dhankar, R.S. (2019). Adaptive Markets Hypothesis. In: Risk-Return Relationship and Portfolio Management. India Studies in Business and Economics. Springer, New Delhi. https://doi.org/10.1007/978-81-322-3950-5_19

Download citation

  • DOI: https://doi.org/10.1007/978-81-322-3950-5_19

  • Published:

  • Publisher Name: Springer, New Delhi

  • Print ISBN: 978-81-322-3948-2

  • Online ISBN: 978-81-322-3950-5

  • eBook Packages: Economics and FinanceEconomics and Finance (R0)

Publish with us

Policies and ethics

Search

Navigation