Session 8: Market Efficiency - Testing Market Beating Schemes
from Aswath Damodaran Hosted by Aswath Damodaran
As investors, we are easy prey for the sales pitches from firms trying to sell us the next “magic bullet” for investing success. In this session, we look at three ways to test whether these strategies that claim to beat the market work. In the first, an event study, we look at a news announcement (that we think affects stock prices) and collect the stock prices of the companies affected by this announcement. If these returns are higher than expected (after adjusting for risk and market performance), the event may be worth building an investment strategy around. In the second, the portfolio approach, we test to see whether companies that share a common characteristic (small market capitalization, low price to book ratio etc.) are better investments than the rest of the market. In the third approach, we use multiple regressions to eke out the variables that drive stock returns and try to make money of them.
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