Adaptive Market Hypothesis

AAA

DEFINITION of 'Adaptive Market Hypothesis'

A theory posited in 2004 by MIT professor Andrew Lo. It combines principles of the well-known and often controversial Efficient Market Hypothesis with principles of behavioral finance. Lo postulates that investor behaviors such as loss aversion, overconfidence and overreaction are consistent with evolutionary models of human behavior, which include actions such as competition, adaptation and natural selection.

INVESTOPEDIA EXPLAINS 'Adaptive Market Hypothesis'

Adaptive Market Hypothesis attempts to marry the rational, Efficient Market Hypothesis principles with the irrational behavioral finance principles. The theory states that humans make best guesses based on trial and error. For example, if an investor's strategy fails, he or she is likely to try a different strategy. If the strategy is successful, however, the investor is likely to try it again.


Adaptive Market Hypothesis applies the principles of evolution and behavior to financial interactions. Efficient Market Hypothesis states that it is not possible to "beat the market" because stocks always trade at their fair value, making it impossible to buy undervalued stocks or sell stocks for exaggerated prices. Behavioral finance attempts to explain stock market anomalies through psychology-based theories. Adaptive Market Hypothesis considers both as a means of explaining investor and market behavior.

RELATED TERMS
  1. Socionomics

    The study of the relationship between social mood and social ...
  2. Market Psychology

    The overall sentiment or feeling that the market is experiencing ...
  3. Efficient Market Hypothesis - EMH

    An investment theory that states it is impossible to "beat the ...
  4. Behavioral Finance

    A field of finance that proposes psychology-based theories to ...
  5. Market Sentiment

    The overall attitude of investors toward a particular security ...
  6. Premium to Surplus Ratio

    Net premiums written divided by policyholders’ surplus. The premium ...
Related Articles
  1. thinkstock|istock
    Active Trading

    What Is Market Efficiency?

    The efficient market hypothesis (EMH) suggests that stock prices fully reflect all available information in the market. Is this possible?
  2. Fundamental Analysis

    7 Controversial Investing Theories

    We take a closer look at the theories that attempt to explain and influence the market.
  3. Active Trading

    Viewing The Market As Organized Chaos

    Find out how a cat and a ladybug prove markets are both random and efficient.
  4. Active Trading Fundamentals

    An Introduction To Behavioral Finance

    Curious about how emotions and biases affect the market? Find some useful insight here.
  5. Active Trading Fundamentals

    Efficient Market Hypothesis: Is The Stock Market Efficient?

    Deciding whether it's possible to attain above-average returns requires an understanding of EMH.
  6. Investing

    What is an efficient market and how does it affect individual investors?

    When people talk about market efficiency they are referring to the degree to which the aggregate decisions of all the market's participants accurately reflect the value of public companies and ...
  7. Options & Futures

    Financial Concepts

    Diversification? Optimal portfolio theory? Read this tutorial and these and other financial concepts will be made clear.
  8. What's a Marketable Security?
    Active Trading

    What's a Marketable Security?

    Marketable securities are financial instruments that can be readily bought and sold in a public market. The key feature is the ease with which it can be sold and converted into cash. Usually, ...
  9. Stock Analysis

    Buyinb Facebook Stock, A Beginner's Guide

    This straightforward guide helps the novice investor feel more adept at buying a stock, such as Facebook (FB).
  10. Trading Strategies

    How effective is creating trade entries after spotting an Exhaustion Gap pattern?

    Understand the components of the exhaustion gap pattern, how and why it occurs, and how it can be used to create an effective trading strategy.

You May Also Like

Hot Definitions
  1. Deferred Revenue

    Advance payments or unearned revenue, recorded on the recipient's balance sheet as a liability, until the services have been ...
  2. Multinational Corporation - MNC

    A corporation that has its facilities and other assets in at least one country other than its home country. Such companies ...
  3. SWOT Analysis

    A tool that identifies the strengths, weaknesses, opportunities and threats of an organization. Specifically, SWOT is a basic, ...
  4. Simple Interest

    A quick method of calculating the interest charge on a loan. Simple interest is determined by multiplying the interest rate ...
  5. Special Administrative Region - SAR

    Unique geographical areas with a high degree of autonomy set up by the People's Republic of China. The Special Administrative ...
  6. Annual Percentage Rate - APR

    The annual rate that is charged for borrowing (or made by investing), expressed as a single percentage number that represents ...
Trading Center