An efficient market can be defined as a market with many rational investors keen on maximizing on profits, competing with each other by attempting to predict the future values of individual securities in the market have access to current information. Hence, at any time in an efficient market, the actual security’s price is an estimate of the intrinsic value of the same security.
The efficient market assumes that there is perfect information in the market (Sonkin & Johnson, 2017). This means that the information in this market is assumed to be complete and the participants have the perfect ability to process all of the information. Moreover, this type of market assumes that the participants are rational in the processing of information and decision-making. The market also assumes that the market participants have incentives which are aligned with achievement of the highest level of risk-adjusted returns (Sommer, 2014). Also, the efficient market assumes that there lacks friction in this type of market such as trading costs.
Hence, it is believed that it is impossible to outperform the stock market as the prices of all shares is a reflection of the all available information (Sonkin & Johnson, 2017). That means that in an efficient market the indexes and the stock have an appropriate and immediate response to the available information. Thus, the efforts to beat the market will result in wasted efforts, investments and will amount to mediocre investment decisions.
Sonkin, P.D. & Johnson, P. (2017). Pitch the Perfect Investment: The Essential. Hoboken, New Jersey: Wiley and Sons publishers.
Sommer, J. (June 28, 2014). Are Markets Efficient? Even the Supreme Court Is Weighing In. retrieved April 11, 2018, from https://www.nytimes.com/2014/06/29/your-money/are-markets-efficient-even-the-supreme-court-is-weighing-in.html