Stock price as a rule adjusts to new information. A capital market is said to be efficient with respect to an information item if the prices of securities fully reflect the adjustment instantaneously and accurately. In price determination process, at any point of time, the price of a security would reflect the effect of all information relevant to that security. Any new information would lead to an immediate re-adjustment of prices, neutralizing the advantage obtained from the new information. No market participant can earn any extra-normal profits.
Fama (1970) defined an efficient market as, "A market in which prices always ?fully reflect' available information. It is assumed that the expected return is stationary through time". EMH is concerned with the informational efficiency of the capital markets.
In an efficient market, there are a large number of rational and profit-maximizing investors who actively compete with each other by trying to predict future market values of individual securities. One of the basic assumptions underlying the random walk theory and, therefore, EMH is that if the stock prices are random then its distribution should be normal. Beyond the normal utility maximizing agents, EMH requires the agents have rational expectations; that on average the population is correct (even if no one person is) and whenever new relevant information appears, the agents update their expectations appropriately. EMH allows that when faced with new information, some investors may overreact and some may under react. All that is required by EMH is that investors' reactions be random enough that the net effect on market prices cannot be reliably exploited to make an abnormal profit. Thus, anyone person can be wrong about the market but the market as ...