Unit study guide · NISM Series XXI-B
Concept of Informational Efficiency
6 questions in this unit
What this unit covers
- Under weak-form market efficiency, which information set is already reflected in security prices?
- Which information set defines the semi-strong form of market efficiency?
- A public earnings surprise is incorporated immediately into a share price. Which efficiency claim is this observation most directly consistent with?
- Which improvement primarily concerns operational efficiency rather than the information reflected in market prices?
- A strategy beats the market before costs but takes much greater risk. What must be assessed before calling this an efficiency-challenging anomaly?
- Why can perfectly costless-looking informational efficiency create an incentive problem for costly investment research?
Key ideas
From the practice bank · 1
Under weak-form market efficiency, which information set is already reflected in security prices?
Weak-form efficiency says prices already reflect historical market information such as past prices and trading data. It does not make the stronger claim that all private information is reflected. Remember: The forms of efficiency differ by the information assumed to be reflected.
Hint Recall the narrowest of the three standard information sets. Common mistake: Confusing past trading information with all public and private information.
XXI-B-077From the practice bank · 2
Which information set defines the semi-strong form of market efficiency?
Semi-strong efficiency says security prices reflect all publicly available information. Public financial announcements are therefore included in its information set. Remember: Semi-strong efficiency extends beyond historical price information.
Hint Consider published financial reports as well as market trading history. Common mistake: Restricting public information to only the data shown on a price chart.
XXI-B-078From the practice bank · 3
A public earnings surprise is incorporated immediately into a share price. Which efficiency claim is this observation most directly consistent with?
The observation is consistent with rapid adjustment to public information, as semi-strong efficiency proposes. A single event does not prove that every security is always efficient. Remember: Evidence consistent with a hypothesis is not proof that it holds universally.
Hint Identify when the information became public and when the price responded. Common mistake: Treating one rapid price adjustment as proof of complete market efficiency.
XXI-B-079From the practice bank · 4
Which improvement primarily concerns operational efficiency rather than the information reflected in market prices?
Lower processing costs concern operational efficiency because they improve the mechanics of trading and settlement. Informational efficiency concerns how information is reflected in prices. Remember: Low transaction friction and informative prices are different dimensions of market quality.
Hint Separate the cost of operating a market from what its prices know. Common mistake: Assuming an inexpensive trading system must also produce fully informative prices.
XXI-B-080From the practice bank · 5
A strategy beats the market before costs but takes much greater risk. What must be assessed before calling this an efficiency-challenging anomaly?
Risk-adjusted returns after costs must be assessed before calling the result an anomaly. Higher raw returns may simply compensate for higher risk or disappear after implementation costs. Remember: An apparent anomaly requires more evidence than an attractive unadjusted backtest.
Hint Compare like-for-like risk and the return investors can actually retain. Common mistake: Equating high raw returns with proof that the market is inefficient.
XXI-B-081From the practice bank · 6
Why can perfectly costless-looking informational efficiency create an incentive problem for costly investment research?
If all information were already fully reflected at no reward, costly research could lose its incentive. Yet information gathering helps make prices informative in the first place. Remember: Informative prices still depend on incentives to gather and process information.
Hint Think about who pays to discover information before others can use it. Common mistake: Interpreting market efficiency as a world with no need for analysis.
XXI-B-082