Question

Evaluate implications of Efficient Market Hypothesis on portfolio management (8 Marks)

Evaluate implications of Efficient Market Hypothesis on portfolio management

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Answer #1

According to the EMH :

  • Securities are always fairly priced in the market
  • Security prices reflect all information, both public and non-public
  • It is not possible to beat the market

The implication on portfolio management is that :

  • Active portfolio management is not worthwhile because the effort and resources spent on trying to beat the market will be futile. Further, the expense ratio of active funds is high, which means that the net returns earned by active funds will be lower than the market returns
  • Passive portfolio management (index funds) are a better option because they have lower expense ratios, and the resources used in active management can be deployed elsewhere
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