Toward a Theory of Marginally Efficient Markets

@misc{citeulike:1583422, abstract = {Empirical evidence suggests that even the most competitive markets are not strictly efficient. Price histories can be used to predict near future returns with a probability better than random chance. Many markets can be considered as {\it favorable games}, in the sense that there is a small probabilistic edge that smart speculators can exploit. We propose to identify this probability using conditional entropy concept. A perfect random walk has this entropy maximized, and departure from the maximal value represents a price history's predictability. We propose that market participants should be divided into two categories: producers and speculators. The former provides the negative entropy into the price, upon which the latter feed. We show that the residual negative entropy can never be arbitraged away: infinite arbitrage capital is needed to make the price a perfect random walk.}, author = {Zhang, Yi-Cheng }, citeulike-article-id = {1583422}, eprint = {cond-mat/9901243}, keywords = {financialmarkets}, month = {Jan}, posted-at = {2007-08-22 16:57:25}, priority = {2}, title = {Toward a Theory of Marginally Efficient Markets}, url = {http://arxiv.org/abs/cond-mat/9901243}, year = {1999} }

TY - ELEC ID - citeulike:1583422 L3 - citeulike-article-id:1583422 TI - Toward a Theory of Marginally Efficient Markets N2 - Empirical evidence suggests that even the most competitive markets are not strictly efficient. Price histories can be used to predict near future returns with a probability better than random chance. Many markets can be considered as {\it favorable games}, in the sense that there is a small probabilistic edge that smart speculators can exploit. We propose to identify this probability using conditional entropy concept. A perfect random walk has this entropy maximized, and departure from the maximal value represents a price history's predictability. We propose that market participants should be divided into two categories: producers and speculators. The former provides the negative entropy into the price, upon which the latter feed. We show that the residual negative entropy can never be arbitraged away: infinite arbitrage capital is needed to make the price a perfect random walk. KW - financialmarkets AU - Zhang, Yi-Cheng PY - 1999/Jan/22/ UR - http://arxiv.org/abs/cond-mat/9901243 ER -