When looking for financial information, information can be found both in primary and secondary sources. The primary source of financial information is financial accounting. This is the main source of important financial information. It includes financial statements such as the annual report and the balance sheet. These act as the primary source of information for any firm, organization or investor who is searching for such information to aid in making good investment decisions. For financial analysts, financial statements are the primary source of financial information.
The Efficient Market Hypothesis (EMH) has three main assumptions. First, it assumes that the market has many buyers and sellers. As such, it is easy to conduct sales because of the many investors in the market and upon receiving new information, a section of investors will overreact and the other will under-react. However, the price of the stock will still be fair. Secondly, it assumes that the expectations of investors are rational and therefore they make excellent choices when buying stocks.
This means that investors practice rationality in their dealings in the market. Thirdly, it assumes that there is faultless financial information available about prevailing market trends and the profits of different firms. This implies that it is impossible to surpass the market and therefore markets are capable of determining prices of stocks and other securities
The EMH is comprised of three forms. They include the weak form, the semi-strong form and the strong form. The weak form postulates that all previous market prices wholly reflected in the pricing of securities that are trading in the market in the present moment.This implies that practical analysis is not important at all and only study of financial statements may bring positive results. It adds that strategies based on previous prices do not work. The semi-strong form postulates that the securities trading in the market are a reflection of all the financial information that is available to the public to aid in decision-making.
It therefore asserts that the study of financial statements is not important because it cannot outperform the market. The strong form postulates that all the available information is a direct reflection of prices of securities trading in the market and even any insider information is not important in any way. Although some managers outperform the market, others underperform and therefore a balance is always maintained between returns and the market value.
The Capital Asset Pricing Model (CAPM) compares the return on a security and the risk involved to the general state of the stock market. It is used to estimate the rate of return of a certain asset in the market in relation to inherent risk. This model has many assumptions. It assumes that investors are rational and strongly opposed to risks. It assumes that those who take risks expect higher returns as rewards from their securities.
They only invest with the end goal of attaining wealth from the asset in mind. It also assumes that investors are not limited to the amount of money they can lend or borrow at a certain set risk-free rate. In addition, it assumes that no investor or single individual can alter the price of a certain asset or security because the market is always in equilibrium. This assumption is highly risky mostly to investors who focus on making quick money in the market.
