TDRS: THE EFFICIENT MARKETS HYPOTHESIS

What Up Fam, What up Folk. Big shout out to the new readers (Armond D and Charmaine A). Long time no hear right? Yeah I know and TDRS is really really sorry but I have an excuse. I blame THE MAN! You see TDRS has been busy closing on his first house and various real estate deals for THE MAN. What’s funny is that the man has my checking and savings account, my 401k, IRA, and credit card. The man also cuts me a check every 1st and 15th of every month. The most ironic thing about this is that the same man will start taking away one of those checks every 1st of the month for the next 30 years. Funny how that works!

Now in the TDRS Obrigado Edition http://hollaatyaboys.blogspot.com/2005/06/tdrs-obrigado-rio-edition.html I said that I would be discussing the Efficient Market Hypothesis and how it relates to life out there on them mean streets of Atlanta. I know some of you (maybe a lot of you) didn’t have the priveledge of suffering through articles written by the likes of Eugene Fama, Markowitz, Fisher, and Black in college. While you may not have been exposed to the theories these guys put down, your lives are impacted by their theories everyday whether you know it or not. That’s my job, to explain the how and why’s, so don’t worry, the finance jargon discussed in this edition will be pie once the master of analogies is done.

Anyway, this week’s edition “the Efficient Market Theory” was influenced heavily by my trip to Brazil. Yeah, TDRS isn’t going to stop talking about Brazil for a minute, so if you don’t like it, you better learn to love it, because it’s the best thing going today! Whew! Big shout out to the leader of the 4-horsemen, Mr. Rick Flair. Now where was I?

………Before I went to Rio, I made a statement in the TDRS NFL Draft Edition http://hollaatyaboys.blogspot.com/2005/05/tdrs-nfl-draft-edition.html that my beloved university (FAMU) had the best talent in the “world” pound for pound. Well, let me just say that I was wrong and I send a personal apology to my man J Reid and Paul J who wrote in to say that the league is nothing if there is not a consideration made for “foreign” players. Shame on Me! Before I get to why this is shame on me, let’s quickly breakdown or summarize the effiecient market hypothesis. For some of you this will be review, for most it might take a second to truly understand. The following is a quick synopsis of the theory :

Efficient market hypothesis (EMH) is an idea partly developed in the 1960s by Eugene Fama. It states that it is impossible to beat the market because prices already incorporate and reflect all relevant information. This is also a highly controversial and often disputed theory. Supporters of this model believe it is pointless to search for undervalued stocks or try to predict trends in the market through any technique
(fundamental or technical analysis).
Under the efficient market hypothesis, any time you buy and sell securities, you're engaging in a game of chance, not skill. If markets are efficient and current, it means that prices always reflect all information, so there's no way you'll ever be able to buy a
stock at a bargain price. This theory has been met with a lot of opposition, especially from the technical analysts. Their argument against the efficient market theory is that many investors base their expectations on past prices, past earnings, track records, and other indicators. Since stock prices are largely based on investor expectation, many believe it only makes sense to believe that past prices do influence future prices.

Did you guys get that? Are you lost? Don’t worry if you are b/c it’s time to break it down. Lets start with this second sentence which says it is impossible to beat the market because prices already incorporate and reflect all relevant information…

Beating the Market:
As I’ve said countless times, the goal out there on them streets is to play to win the game. If you’re tying to be that “playa playa” then you need to basically run “them streets” like a business. In business your goal is to be profitable and to do that you need to acquire something at lower cost than what you would eventually sell it for or purchase an asset and run it as efficiently as humanly possible to generate consistent and sustainable cash flow that can be invested in other projects. Now if you’re a “trader” aka a “playa” of the field, the former applies to you. We’ll be talking about portfolio managers or “long-term” players next week.

Now that we understand what the market is and the goal of playing in the market, we should revisit the above statement, but this time in layman’s terms. The EMH basically states that there are no “diamonds in the rough”. No “needles in the haystack. So my statement about FAMU having the pound for pound best talent in the world is not necessarily true if you subscribe to the EMH. According to the EMH, you can’t go to FAM, Howard, or anywhere for that matter and find a diamond in the rough, because the market (all the playa playas) have infiltrated the market and found the diamonds and subsequently bid up their price to a point where you can’t be profitible. The chart below shows a before (inefficient market) and after (efficient market) of when “her” price has been bid up

Inefficient Market
Efficient Market-
She leans over to open your door when she is in the passenger seat
She doesn’t even pay attention to you trying to get in the car and it’s raining!
She actually buys you dinner and not after 5 or six dates.
She doesn’t bother to reach for the check, even after the fifth date and calls you cheap if you think there is a problem with that
Actually buys a gift for you on your birthday
Resorts to sending e-cards and maybe sending a brotha a gift certificate to some wack ass steakhouse like Sizzler.
Works out b/c she wants to look good
Voluntarily let’s “herself go” and “expects” brothas to be cool with it.

You see today’s discussion isn’t about acquiring a dime. It’s about acquiring a dime when no really knows that it’s a dime or finding dimes where no one has thought of going. Now that’s a true playa. I mean acquiring something at fair value is fine, but don’t you feel better when you get it for a deal. I mean, fellas, doesn’t it feel good when you find that girl who isn’t demanding what they think is “market value”? That’s the problem with dating on them mean streets of the USA. Many women “think” they are worth more than they actually are. Hell, there are some who think they are the best in the world and because of it walk around like they’re ish doesn’t stink! Like J.T. money said, “I hate hoes and hoes hate me”! If you feel that you are one of the following, then I am talking about you. If not, then just read and laugh. The biatches that I hate are the one’s who:

Only go on dates to get free meals, but have the nerve to call a brotha cheap.
Get upset if I don’t buy them drinks, but have the nerve to call a brotha cheap.
Got burned out partying too damn much in college, but has the nerve to say brothas who hit the club regularly aren’t mature.

Fellas (and ladies you can subscribe to this as well) the discussion up to this point is leading to my contention that the market is NOT EFFICIENT. Fellas you can beat the market, because all releveant information is not incorporated into the price these women are demanding. There are some over valued women out there and they must be sold immediately. Now before someone references the URS scale and my affinity for dimes, let me just say there is nothing wrong with acquiring a dime that is selling for fair value. My problem isn’t with dimes, it’s with 6’s and 7’s who are selling like they are dimes. As my man Maceo says in the current club classic Hoe sit down, “Hoe pay attention, play your position”.

The only way to determine if these hoes are over-valued is to do research. That means taking a trip to Rio, the Domincan Republic or somewhere that isn’t heavily covered by playa playas and assessing the viability of those markets. I am not saying that Brazil is the end all be all, but I got believe one should at least consider the assets there before buying anything in the good ole U S of A. That’s all that I am saying.

Techincal & Fundamental Analysis: Skill or Chance?
Because I believe the market is inefficient, I also believe that winning out there on them streets takes skill and it’s not just chance. The EMH basically says that analyzing the game as I do is moot because the market already knows everything that I spit so no one can profit from it. Yeah Right!

Actually to be more accurate and to educate the folks I should really breakdown the EMH into its parts. There are three forms of the EMH, weak form, semi-strong, and strong and because I’m clearly bored waiting for information from a client, I’ll pontificate on the three forms.

The Weak Form
The weak form EMH says that no excess returns can be earned by using investment strategies based on historical share prices or other financial data. Basically, in a weak-form efficient market current share prices are the best, unbiased, estimate of the value of the security. The only factor that affects these prices is the introduction of previously unknown news. News is generally assumed to occur randomly, so share price changes must also therefore be random.

In laymans terms, the weak form says that you can’t look at a female’s (or male’s) past and determine his or her current value. I say bulllllllllSHIT on that one! Once a ____, always a ____! You can fill in the blanks however you want. Just because you have been dipped in the water three times or declared yourself celebate doesn’t increase your value or worth. It’s definitely a step in the right direction, but don’t try to act like you’ve been a saint all of your life. Fellas know the good ones from the bad so if you’re out there thinking you got brothas tricked b/c they don’t know your past, think again! They really do! I’m sorry for the offended, but as my man E.Fountain says: if you reading this to feel good about yourself, then you are reading the wrong damn thing.
· The Spring Effect
Techincal analysts evaluate stocks by looking over some time period or even a period time over some period of time, such as studying stock prices in January (aka the January effect). The January effect occurs at the end of the year when investors, start to worry about taxes and proceed to sell some stocks that are down so the losses can be written off against capital gains. This selling causes stocks to go down near the end of the year and back up in January when investors buy back the stocks they sold…
The same sort of methodology can be done out there on them streets. The best time to pick up females on the cheap is NOT during the fall months like one would think, but during the spring! I know you’d think that women would want to have a man during the fall to curl up with, which they do. However, men are thinking the same thing so they artificially bid up the price of women during this time. Moreover, women have used the summer months to get in shape so they think they’re “all that” around this time. Fellas don’t waste your time here. Wait until the spring when the “break-up season” starts.
During the break-up season those guys that overpaid in the winter realize their stupidity when the Amerie skirts and low cut jeans start being put on display. In an attempt to clear “cap space” (see the NFL draft edition) these brothas break-up with their winter honeys out of the blue causing all types of disruption in the market because it is so unexpected. These poor women are heartbroken and have no one to turn to. This is an investment opportunity and TDRS says BUY! And I’m not just saying buy one, but two or three b/c they will be pretty darn cheap. This my friends is the “Spring Effect” and a many a brothas (technical analysts) take advantage of this market inefficiency year after year.
Now before I get to the next form, I have to say that there are some techincal anlayses that don’t work or are no longer valid for finding market efficiencies. Fellas, the “Let Out” is no longer valid. It’s no longer valid purely because everyone participates in the ‘Let out” and that really limits your ability to find inefficiences. Remember when the let out was simply just a gathering of everyone that was in the club and you the playa, playa showed up out of no where and plucked a few winners from the crowd? Well that has totally changed because it is just as many people waiting outside the club than there were in the club. Brothas are waiting outside by the door. They are riding down the strip with them 22’s yelling “hey shawty” every minute, heck they even have they’re boy hold a seat at the waffle house knowing that your crew is going to show up there.
The Semi-Strong Form
Share prices adjust instantaneously and in an unbiased fashion to publicly available new information, so that no excess returns can be earned by trading on that information.

I am not even going to talk layman’s terms here. I’d just rather give an example to disprove this theory. Ja Rule tried to show us the way with the “Holla Holla” video. Snoop and Pharell tried even harder to show us the way in the “Beautiful” video. Hell Mr. J. Jackson and TDRS, both commoners tried and despite the blatant releasing of unbiased information which showed just how ridiculous Rio De Janiero is, there is still a number of opportunities down there. Everyone knows just how ridiculous it is yet every day someone different comes back with a smile on his face that is often imitated but can never be duplicated.

The Strong Form
The Strong Form says that share prices reflect all information and no one can earn excess returns.

The clincher to this form is that it has all been disproven by the likes of folks like Martha Stewart who are convicted of insider information. To the extent people trade on insider info, there is no way the strong form holds.

Even if you believe the market is efficient, the key to winning the game is getting the inside scoop on these ladies. The good thing is that out on them streets trading on insider info is not illegal. Fellas if you have to “buddy” up with her sister, brother, father, or momma to figure out her value, then do it. They do it to us, so we should return the favor!

Final Thoughts
Again I’m sorry for continuing to be incognegro. I am still out there on them streets and I will continue to spit that hot fire like the top three rappers of all time, Dylan, Dylan, & Dylan! This weeksTDRS focused on the EMH and was more so geared toward the playa playas. The next TDRS will focus on portfolio theory, which is more so geared to those of us who are “long-term holders of stocks. HollaAtYaBoy!

Mailbag

· Good summary my man. Next time, less detail. Leave'em guessin'. Default to the standard "A good time was had by all"…..b holcomb (retired playa circa: 04)

· sounds like bruhs got a lot of "beijos" *hah*…… Quia Q
· I enjoy reading your newsletter man. It is a great break from the monotonous work day….Charmaine A