A quantitative description for efficient financial markets

Eero Immonen

Research output: Contribution to journalArticleScientificpeer-review

4 Citations (Scopus)

Abstract

In this article we develop a control system model for describing efficient financial markets. We define the efficiency of a financial market in quantitative terms by robust asymptotic price-value equality in this model. By invoking the Internal Model Principle of robust output regulation theory we then show that under No Bubble Conditions, in the proposed model, the market is efficient if and only if the following conditions hold true: (1) the traders, as a group, can identify any mispricing in asset value (even if no one single trader can do it accurately), and (2) the traders, as a group, incorporate an internal model of the value process (again, even if no one single trader knows it). This main result of the article, which deliberately avoids the requirement for investor rationality, demonstrates, in quantitative terms, that the more transparent the markets are, the more efficient they are. An extensive example is provided to illustrate the theoretical development.
Original languageUndefined/Unknown
Pages (from-to)171–181
Number of pages11
JournalPhysica A: Statistical Mechanics and its Applications
Volume433
DOIs
Publication statusPublished - 2015
MoE publication typeA1 Journal article-refereed

Keywords

  • Asset value dynamics
  • Efficient market hypothesis
  • Internal model principle
  • Tatonnenent
  • Value discovery

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