by Peter Fortune
March/April 1991

This article assesses the current state of the efficient market hypothesis, which was the conventional wisdom among academic economists in the 1970s and most of the 1980s. It concludes that empirical evidence provides an overwhelming case against the efficient market hypothesis. The evidence exists in the form of a number of well-established anomalies--the small firm effect, the closed-end fund puzzle, the Value Line enigma, the loser’s blessing and winner’s curse, and the January and weekend effects.

These anomalies can be explained by resorting to a model of "noise trading," in which markets are segmented with the "smart money" enforcing a high degree of efficiency in the pricing of stocks of large firms while less informed traders dominate the market for small firms. This model can generate cycles in stock prices similar to those observed in the real world. The evidence suggests that in an inefficient market, policies designed to mitigate price changes might be appropriate.

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