Basically all Quant Finance theory is build on No-Arbitrage presumption and Efficient Markets Hypothesis.

The known Grossman-Stiglitz Paradox says: if one can't make money from trading, one wouldn't trade any asset in the first place.

I did some private trading and watched markets over time, to see that markets are indeed becoming more and more efficient, so that prices already contain almost all available information on current and expected aspects, and only random unknown news changes the market. People may agree or disagree to that more or less, but overall there is convergence to strong Efficient Markets Hypothesis over last years.

How do practitioners see this development, and why are still so many trading despite the theory?


this is just theory, don't take it as serious, theory it's just take on approximation of reality and in this case not good one, people trade to check that strategy is profitable or trade because they think it will profitable, besides that you have many other spaces on what people compete with each other in this game


Making money is not the only reasonable objective to trading. Another common reason is to manage/reallocate risk. For example, this is exactly the objective of liability-driven-investors, such as pension funds. They're specifically trying to match durations of their liabilities. It doesn't matter if pension fund managers believe there are no inefficiencies to exploit. They're required to continue managing duration based on their fund mandate and evolving conditions of their pension obligations.

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    $\begingroup$ Indeed. I think most of the emh stuff assumes a rational convex utility function over wealth, which is most likely not the case for most people. Eric Falkenstein has been a proponent of relative wealth utility functions being more likely, which leads to a much different landscape. $\endgroup$ – experquisite Sep 6 '14 at 15:41

The formation of asset price bubbles, such as the recent US housing market bubble, is perhaps the clearest indication that markets are not efficient. Hundreds of bubbles have been documented for all kinds of traded assets; see the tulip mania for an extreme case. Many practitioners also routinely use trading strategies such as momentum or reversion to the mean, which are incompatible with the efficient market hypothesis in any form.

Grossman and Stiglitz argued that markets cannot be informationally efficient because if they were, nobody would have any incentive to gather information and trade on it. The G&S paper was titled "On the Impossibility of Informationally Efficient Markets". There is also plenty of other academic work which challenges the EMH, for example Robert Shiller's for which he received the 2013 Nobel prize in economics.

  • $\begingroup$ I understand markets being not fully efficient, but would you agree they converge to efficiency over time? $\endgroup$ – emcor Sep 8 '14 at 13:37
  • $\begingroup$ I agree that market inefficiencies may become more difficult to exploit, or disappear completely. For example, they may become 'crowded trades' because the relevant data/technology becomes more wide-spread. But that does not mean that the market as a whole becomes efficient. $\endgroup$ – Felix Sep 8 '14 at 14:21

It's unclear what type of trading you are referring to (day trading sort of?). Also I'm not familiar with the aforementioned paradox. However, I think it's weird to say that you can't make money from trading, the semi-strong (strong) from of the EMH only states that the current share price incorporates all publicly (and non-publicly) available information. In other words; excess returns opportunities are unpredictable. Still, prices do change over time. This means that someone will always make money by trading, skill or no skill.

Also, there are other reasons for altering your portfolio, as mentioned by nsw.

  • $\begingroup$ The question is referring to the strong EMH "all available information on current and expected aspects". The paradox is known as "Grossman-Stiglitz paradox" (Nobel Prize winners). $\endgroup$ – emcor Sep 6 '14 at 9:52
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    $\begingroup$ Well, ok. My point being that it is based on the assumption that we are completely rational, where in fact there are lots of other factors (other than financial) that influence how we make decisions. I'm sure there are lots of taders that think they have superior information, although that might not be the case. $\endgroup$ – Good Guy Mike Sep 8 '14 at 13:35

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