Cambridge Business Association
Efficiently Inefficient
Book

Efficiently Inefficient

How Smart Money Invests and Market Prices Are Determined

Lasse Heje Pedersen
Princeton UP, 2015
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Editorial Rating

8

Qualities

  • Analytical
  • Background
  • Eloquent

Recommendation

The efficient market theory posits that making money by trying to outperform the stock market is impossible since prices instantaneously reflect all available information. But asset manager and finance professor Lasse Heje Pedersen asserts that the reality of trading is somewhat different. Profits are available to those brave enough to take the risks and pay the costs, he says, but knowing which opportunities can make money for you and which fees you should absorb is the hard part of investing. In this advanced resource book on the financial markets, Pedersen outperforms the classics by grounding the strategies of successful portfolio managers in academic theory. He offers clear explanations, notably, about the role of hedge funds. While never giving investment advice, getAbstract can nonetheless issue a clear buy recommendation on this comprehensive, valuable textbook to financial professionals, investors and students of finance.

Summary

The Investment Marketplace

Many economists hold the longstanding belief that markets are efficient and that market prices will always reflect all available information. Yet many investors make money by using strategies that outperform the market. One suggested explanation for this anomaly is that human emotions create errors in prices, opening opportunities for profit. This interpretation suggests the possibility of many ways “to beat the market,” since humans are volatile and make a lot of mistakes. However, competitive investors in the process of trying to beat the market actually push it toward efficiency – without ever getting it completely there. Thus, rewards are available because “markets are inefficient but to an efficient extent.”

Many factors influence the prices of stocks, including corporate decisions, changes in product markets, investor behaviors, macroeconomic events and large volume trading. Every security’s level of efficiency changes constantly due to these events. The challenge for investment managers is to exploit these dynamics.

Successful managers use their experience, knowledge and resources to formulate strategies for making money. Some...

About the Author

Lasse Heje Pedersen is a principal at AQR Capital Management and a professor of finance at Copenhagen Business School and New York University Stern School of Business. He received the Bernácer Prize as the best European Union economist under the age of 40, and he is the co-author of Market Liquidity: Asset Pricing, Risk and Crises. 

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