Competition in the Securities Markets - Business Finance - ثاني ثانوي

. Link digiLatest www.in.edu.sa 4.6 Competition in the Securities Markets Key Terms Efficient market hypothesis (EMH) Market return Overpriced Insider trading Underpriced Countries, and the companies that operate in a country, depend upon equity markets to maintain and grow their economies. If equity markets are competitive and many informed participants can readily enter and exit equities, then a market becomes efficient. The Saudi Capital Market Authority attempts to create these market conditions by setting information regulations for companies that list on the Saudi Exchange. The Exchange provides performance information on equities, such as immediate market rates, daily results, and historical results and trends. The Exchange also provides educational information for investors to help them make good investment choices. This allows individuals to readily buy and sell securities, find information that is rapidly disseminated, and follow prices as they quickly change in reaction to changes in the economic and financial environment. The securities markets are among the most competitive markets in existence. Etfic bypotha м The theory that when new information comes into the market, it is immediately reflected in stock prices and, as a result all wock prices are fair values 4.6a Efficient Market Hypothesis (EMH) Competition among investors has led to an efficient market hypothesis [EMH). The efficient market hypothesis asserts that securities markets are so competitive that the current price of a stock properly values the firm's future prospects that is, the firm's future earnings and its dividends. If a firm's stock were perceived as undervalued, investors would rush to purchase it. This increase in demand would push up the price. The converse would occur if the stock were perceived as overvalued; investors would sell the stock and this increase in supply would cause the price to fall. Hence the current price is a true measure of the security's worth. Under EMH, security analysis 168 Business Finance

by an individual investor designed to determine if a stock is overpriced (or costs more than its worth) or underpriced (or costs less than its worth) is futile because the stock is neither. The market has determined an equilibrium price. An important implication of this theory of efficient markets is that an investor cannot consistently beat the market return (the amount of money that a firm gets back from the overall value of its equities). An investor will earn a return consistent with the market return and the amount of risk perceived in the investment. The efficient market hypothesis suggests that the probability of an investor outperforming the market over any extended period is very small. That does not mean that an investor cannot outperform (or underperform) the market during a short period of time. During a brief period, such as a year, some investors will earn a return that is higher than the return earned by the market. However, there is little chance that those individuals will be able to achieve superior results for an extended period of time (in other words, to outperform the market consistently). Some stock investors engage in day trading. These investors will buy and sell stocks continuously hoping to take advantage of small changes in stock prices. Information that enters the market can have immediate effect on the price of equities. Future prices can change radically due to weather events, political changes, changes in competitive actions, or any number of other events. Stock prices for companies can go up or down based on information that enters the market. Professional traders monitor information streams and make decisions accordingly. There is considerable information to back the efficient market hypothesis and this strongly suggests that few individual investors will, over a period of time, outperform the market consistently. One primary reason for the efficient market hypothesis is the speed with which securities prices adjust to new information. The hypothesis requires that prices adjust extremely rapidly as new information is disseminated. In the modern world of advanced communication, information is rapidly dispersed in the investment community. The market then adjusts securities prices in accordance with the impact of the news on the firm's future earnings and dividends. By the time that the individual investor has learned the information, securities prices probably will have already changed. Thus, the investor will not be able to profit from acting on the information. Overpriend An Item that coats more than its worth Underpriced An Item that costs less than its worth Ma The amount of money that a form gets back from the overall value of the equities وزارة التعليم JMAL-AWIN CHAPTER An Introduction to Financial Markets 169

6.36 27 5.69 9 3.36 5.33 2538 1.7 675 375.89 9 How can professional traders react more quickly to price changes than other investors? 5908 8930 15 20 23 25 890 33 78 40 is 1321 2.20% 28180 117 A 2453 322 23 AA 825 635% 39 5 245 EXOIL 14 425 24606 54 35 58893354 825286.73 763446 Inside brading Asituation where someone who works for a firm or has access to information aboil it, trades the fum's securities because they have confidential or non-public information about the firm 1710 Business Finance 4.6b Insider Trading Because information is so important, there are laws against insider trading. Insider trading is a situation where someone who works for a firm, or has access to information about it, trades the firm's securities because they have confidential or non-public information about the firm. For example, if an insider knew that a company was going to release information that would greatly lower the stock price, the insider could sell their stock in the company or short sell the company's stock. Insider trading is considered to be a criminal activity in most countries, including the Kingdom of Saudi Arabia. If the markets were inefficient and prices did not adjust rapidly, some investors would be able to adjust their holdings and take advantage of differences in investors' knowledge. If some investors, such as insiders, knew that the acquisition would be announced but others would not, the insider could buy stock from those who were not informed. The price then could rise over a period of time as the knowledgeable buyers accepted progressively higher prices in order to buy the stock. Of course,

if a sufficient number of investors had learned quickly, the price increase would be rapid as these investors adjusted their valuations of the stock in accordance with the new information. Government decisions can impact markets. To avoid giving some investors advantages, specific announcement times for the release of government information is announced to the public. Exercises Choose the correct answer. 1. The Saudi Capital Market Authority attempts to create competitive market conditions by setting information regulations for companies that list on the Tadawul exchange. True/False 2. In an efficient market, security prices: a. adjust rapidly to new information. b. adjust slowly to new information. c. poorly value a firm's future prospects. d. indicate that the firm is overvalued. وزارة التعليم CHAPTER 4 An Introduction to Financial Markets 171