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The Most Important ThingUncommon Sense for the Thoughtful Investor$
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Howard Marks

Print publication date: 2011

Print ISBN-13: 9780231153683

Published to Columbia Scholarship Online: November 2015

DOI: 10.7312/columbia/9780231153683.001.0001

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The Most Important Thing Is … Understanding Market Efficiency (and Its Limitations)

The Most Important Thing Is … Understanding Market Efficiency (and Its Limitations)

(p.7) 2 The Most Important Thing Is … Understanding Market Efficiency (and Its Limitations)
The Most Important Thing

Howard Marks

Columbia University Press

This chapter looks at a vital prerequisite for successful investing: understanding market efficiency and its limitations. The 1960s saw the emergence of a new theory of finance and investing, a body of thought known as the “Chicago School.” The theory included concepts that went on to become important elements in investment dialogue: risk aversion, volatility as the definition of risk, risk-adjusted returns, systematic and nonsystematic risk, alpha, beta, the random walk hypothesis and the efficient market hypothesis. The most important upshot from the efficient market hypothesis is its conclusion that “you can't beat the market,” which was buttressed by studies of the performance of mutual funds. This chapter provides an overview of the assumptions that underlie the theory of efficient markets and goes on to discuss index funds. It also reflects on the debate over efficiency versus inefficiency and explains why understanding market efficiency is the most important thing in successful investing.

Keywords:   market efficiency, Chicago School, investment, risk aversion, efficient market hypothesis, mutual funds, index funds, market inefficiency

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