Market Microstructure in Emerging and Developed Markets

CHAPTER 21

Stock Market Efficiency and Market Microstructure in Emerging Markets

PARVEZ AHMED

Associate Professor of Finance, University of North Florida

INTRODUCTION

The efficient market hypothesis (EMH) serves as a foundation of financial economics. In his seminal work, Kendall (1953) asserts that stock and commodity prices follow a random walk. As Kendall (p. 13) notes, a time-series of stock prices “looks like a wandering one, almost as if once a week the Demon of Chance drew a random number from a symmetrical population of fixed dispersion and added it to the current price to determine the next week's price.” This surprising finding led economists to postulate that in a competitive market the prices of stocks should follow a random walk, implying that investors cannot use past prices to predict future prices.

Fama (1970) further codified emerging ideas of market efficiency into three basic forms: (1) weak form, (2) semistrong form, and (3) strong form. Various researchers including Summers (1986), Fama and French (1988), Poterba and Summers (1988), Richardson and Stock (1989), and Fama (1991) empirically investigate the EMH for developed markets. Many others examine market efficiency of emerging markets (Errunza and Losq 1985; Barnes 1986; Laurence 1986; Agbeyegbe 1994; Huang 1995; Urrutia 1995; Grieb and Reyes 1999; Karemera, Ojah, and Cole 1999; Ojah and Karemera 1999; Chang and Ting 2000; Ryoo and Smith 2002; Smith, Jefferis, and Ryoo 2002; Lim, Habibullah, and Hinich ...