GMAN 322: Efficient Markets Assignment

I have posted two videos below. One is of Benoit Mandelbrot, a mathematician who passed away not too long ago. Here is a brief bio (and there’s more in the video):

Mandelbrot has been called a visionary[20] and a maverick.[21] His informal and passionate style of writing and his emphasis on visual and geometric intuition (supported by the inclusion of numerous illustrations) made The Fractal Geometry of Nature accessible to non-specialists. The book sparked widespread popular interest in fractals and contributed to chaos theory and other fields of science and mathematics. [Wikipedia]

And here is the video:




The other video is of Buron Malkiel. Malkiel is, of course, the author of the book A Random Walk Down Wall Street. Here is his bio:

Burton Malkiel is the Chemical Bank Chairman’s Professor of Economics at Princeton University and author of A Random Walk Down Wall Street, which played an important role in encouraging the use of index funds by institutional and individual investors. Malkiel has long held professorships in economics at Princeton, where he was also chairman of the Economics Department. He is a past president of the American Finance Association and the International Atlantic Economic Association. He holds a B.A. and M.B.A. from Harvard University and a Ph.D. from Princeton. [link]

And the video is here: http://video.ft.com/v/73501360001/Burton-Malkiel-on-efficient-markets-and-China. Click on the link, watch the video and come back to this page (the video will open in a new page).

Your assignment is to post a comment below (30-40 words) on both videos in the context of Chapter 6 of your text book. The deadline is Friday, May 6th.

 

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13 comments for “GMAN 322: Efficient Markets Assignment

  1. May 2, 2011 at 5:12 pm

    Both Mandelbrot and Malkiel speak to the phenomenon that exists as result of the aggregate effect of individual investors seeking superior returns in the market. While Mandelbrot attempts to describe this phenomenon through mathematic formulae, Malkiel simplifies the approach for the rational investor by affirming that in the long run, markets are efficient and a true representation of growth and value. The rational investor should take the market as it is, and passively manage investments in the market by way of diversified indexes.

  2. Grant Heinitz
    May 5, 2011 at 11:52 pm

    Both men make interesting points whether being for or against Efficiency Market Theory but I would like to include a couple of observations of my own. If a rational investor takes the market as it is because of a perceived efficiency how do you explain Warren Buffet returning 20% annual rates of return to his shareholders the past 45 years? How do you explain institutional investors earning 8.5% this past “lost” decade while individual investors returned only 3.4%? Both examples suggest there is considerable variance within the markets that skilled “rational” investors can exploit.

  3. Jennifer F
    May 6, 2011 at 8:05 am

    Malkiel and Mandelbrot both point out the difficulty of investing as proof of differing sides of the argument about market efficiency. Malkiel asserts that no one has been able to consistently beat the market over time, which demonstrates market efficiency. Mandelbrot asserts that the EMH grew in popularity only because it made investing look easy – if this were true, then everyone would be successful. Both men back-up their arguments with convincing evidence. It is up to the individual to decide whether this evidence demonstrates market efficiency or not.

  4. Dave Stinson
    May 6, 2011 at 9:29 am

    What I understood from Mandelbrot is that he thinks that the largest price changes in the stock market are what matter the most or have the most effect on investors’ portfolios. I beleive he concedes that efficient market hypothesis is a good simple model for investing, but that it is far from perfect and an example is that it ignores the largest price changes.

    Burton main points were that passively managed low cost index funds will beat actively managed funds over the long term. He is a China bull, and a proponent of overweigthing China in portfolios because he says that the way indices are calculated are not including enough weight on China. 2 reasons for this one being that not everyone can own chinese investments, a large part are only made available to locals and thus not included in world indices, and secondly large parts of the biggest chinese companies are still owned by the chinese gov’t and thus left out of world indices. He advocates overwieght china to compensate for this underweigthing of china in worl indices.

  5. Pat Smida
    May 6, 2011 at 2:41 pm

    Even though efficient markets do exist, the main take away that I have from the videos is that efficiency might be very quick or take a long time to manifest themselves. Therefore, efficient markets do not lend to portfolio strategies, or the timing of the execution of these strategies. Efficient markets tend to be more academic than practical.

  6. Peter W
    May 6, 2011 at 5:22 pm

    Both Malkiel and Mandelbrot have interesting arguments about how markets work. I tend to side with Malkiel’s school of Efficient Market Theory. Assets prices are a product of the large and complex network of information, expectations and behavioral characteristics of the investor. Ultimately, the ongoing interaction of these variables drive prices to fair value. I found Malkiel’s comment about China interesting given their naturally reduced weighting within indices because of their local share structures. Futhermore, his commnet how overweighting you portfolio to China exposure to offset this will be important as it will become the world largest economy in the next 20 years–this ties back to the Efficent Market Theory and how financial market performance is linked to the real economy.

  7. Vivian Lung
    May 6, 2011 at 6:20 pm

    Mandelbrot believes that the largest price change in the stock market determine the performance of a portfolio. He states that the efficiency market hypothesis is too simple because analyst ignores the largest price changes. Both theories mentioned by Mandelbrot maybe extreme. We should examine the entire market including all impacts in order to find what could be an “efficient market”.
    On the other hand, Malkiel believes in purchase and hold practice. Over the course of his study, he finds that investors who act passively actually earn higher profit than those who trade actively. He also believes in investing in the emerging market, specifically China. Until China allows its market to act under capitalism, it is challenging to understand the market because it is not free. As an investor, it is difficult to know how well a company is performing if he/she does not have the financial statements. Same is true for the Chinese market.

  8. Michelle Reed
    May 6, 2011 at 6:34 pm

    Both Makiel and Mandelbrot make good arguments regarding the validity of efficient market thery. Makiel states he has years of evidence prooving that the most successful investors take a passive approach, and that activly managing a portfolio diminishes returns. Mandelbrot argues that efficient market theory tends to ignor large events, which investors should capitalize on. He admits that his throry requires a lot of detailed work, but that the efficients market theory is too generalized. In my opinion, efficient market theory works for the average investor, however if there is an investor that is willing to take the time to study the past few large events in detail and apply their investments accordingly, they can beat the market.

  9. Melissa
    May 6, 2011 at 9:16 pm

    Both Makiel and Mandelbrot provide valid insights into the efficient market theory. In my opinion, Makiel presents a valid argument in the video, as well in his book, that a passively managed portfolio will outperform an actively managed portfolio in the long run. Although an actively managed portfolio allows investors to capitalize on market fluctuations, it is capitalizing at one point in time, as opposed to taking a long run view that a passively managed portfolio allows for.

  10. Marilyn G
    May 6, 2011 at 9:51 pm

    Mandelbrot and Malkiel are both notable men with two different but interesting interpretations of the efficient markets. Mandelbrot’s research resulted in an observation that the stock market does not follow a normal distribution; while Malkiel concludes that investors are better off owning passively managed index funds, and diversifying in emerging markets. As the arguments are coming from two different points of view, math and economics vastly relates to each other, but not entirely.

    Overall, I agree with Malkiel as stock prices reflect available information and with a diversified portfolio you should receive generous returns. The stock market is risky, and it is up to the investor to determine how in depth they want to manage their investments.

  11. Elliott G
    May 6, 2011 at 10:22 pm

    There is a good amount of evidence that supports the efficient market hypothesis, and both Makiel and Mandelbrot make valid points concerning their point of views. I believe that following the EMH and investing in passively managed portfolios is ideal for the majority of investors. Without the skill, or access to someone with the skill, of actively investing and beating the market (which absolutely can be done) the majority of investors would be much better off following this hypothesis. However, numerous people have proven that the market can be beaten, most notably Mr. Buffitt. While his level of success is extremely rare, many other investors, either individual or institutional, can and do beat the market. Essentially, EMH is the less risky style of investing, but the market can be beaten if enough time, energy and research is put forth to do so.

  12. Jennifer Park
    May 6, 2011 at 10:39 pm

    Both Makiel and Mandelbrot made interesting points about the efficient market. Mandelbrot believes that the market works very simply and that the chances of it going up or down is as unpredictable as a coin toss. He also argues that large spikes in the market where big events happen are segregated. I find that interesting, as then it means that the market is totally unpredictable. However, in economist were able to predict that the recent housing bubble was about to happen. Malkiel believes investors would do better owning passively managed funds and didn’t trade. However, in doing so, many investors would build long term portfolios and perhaps miss out on high returns. He also brings up an interesting topic on recommending investors to over-weigh their portfolio in China because the government takes half of the company’s profits. If i were to use both Malkiel and Mandelbrot’s suggestions, I would invest heavily when there is a big event in the market, invest heavily in China and then passively make adjustments to the portfolio over a long period of time.

  13. Chris Deininger
    May 6, 2011 at 11:46 pm

    The mathematician vs. the economist on how markets work was very intriguing. Benoît B. Mandelbrot the founder of fractal geometry suggested that financial markets in fact did not follow Louis Bachelier theory of bell curve price distribution. Instead Dr. Mandelbrot’s research uncovered that changes in market prices do not fall within the bell curve distribution in a reliable fashion. Therefore, his theory assumes that large market shifts are too unlikely to impact institutional or individual investors. I tend to lean toward Malkiel’s Efficient Market Theory. First simple math proves that is theory has more than just merit, in that 2/3 of actively managed fund have been beaten by his passive aggressive approach. More importantly proving that the securities market is efficient, when presenting information about individual stocks and the stock market as a whole. Lastly, I found Malkiel’s observations on the Chinese market very interesting especially how they weight their indices even though many class A stock aren’t available to international investors. In addition with selecting funds from China will be very important to your portfolio as a large educated labor force emerges and continued infrastructure investments, coupled with strong economic expansion. These examples correlate perfectly to Malkiel’s theory of how financial performance is directly related to the countries economy.

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