What is 'Strong Form Efficiency'

Strong form efficiency is the strongest version of market efficiency and states that all information in a market, whether public or private, is accounted for in a stock's price. Practitioners of strong form efficiency believe that not even insider information can give an investor an advantage. This degree of market efficiency implies that profits exceeding normal returns cannot be made, regardless of the amount of research or information investors have access to.

BREAKING DOWN 'Strong Form Efficiency'

Strong form efficiency is a component of the efficient market hypothesis and is considered part of the random walk theory. Strong form efficiency states that securities prices, and therefore the overall market, are not random and are influenced by past events. This efficiency is at the opposite end of weak form efficiency, which states that past events have no effect on current securities prices and price movements.

The idea behind strong form efficiency was pioneered by Princeton economics professor Burton G. Malkiel in his 1973 book "A Random Walk Down Wall Street." The book championed two forms of the random walk theory. The form that explains strong form efficiency states that it is impossible to consistently outperform the market due to the fact that all information, both public and proprietary, is reflected in current market prices, and it is therefore impossible to earn long-term abnormal returns.

Example of Strong Form Efficiency

Most examples of strong form efficiency include some sort of insider information. This is because strong form efficiency is the only part of the efficient market hypothesis that takes into account proprietary information. However, the efficiency theory states that contrary to popular belief, harboring some sort of inside information won't help an investor earn high returns in the market.

Let's say, for example, that the CTO of a public technology company believes that his company will begin to lose customers and revenues. After the internal rollout of a new product feature to beta testers, the CTO's fears are confirmed and he knows that the official rollout will be a flop. This would be considered insider information.

The CTO decides to take up a short position on his own company, effectively betting against the stock price movement. If the stock price declines, he is poised to profit, and vice versa. However, much to the CTO's chagrin, when the product feature is released to the public, the stock price is unaffected and does not decline, even though customers are not happy. The market would be considered to be strong form efficient because even the insider information of the product flop was already priced into the stock. The CTO would lose money in this situation.

  1. Weak Form Efficiency

    One of the different degrees of efficient market hypothesis (EMH) ...
  2. Price Efficiency

    The premise that asset prices are efficient, to the extent that ...
  3. Market Efficiency

    The degree to which stock prices reflect all available, relevant ...
  4. Efficiency

    A level of performance that describes a process that uses the ...
  5. Semi-Strong Form Efficiency

    A class of EMH (Efficient Market Hypothesis) that implies all ...
  6. Allocational Efficiency

    A characteristic of an efficient market in which capital is allocated ...
Related Articles
  1. Investing

    Market Efficiency Basics

    Market efficiency theory states that a stock’s price will fully reflect all available and relevant information at any given time.
  2. Investing

    Efficient Market Hypothesis: Is The Stock Market Efficient?

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

    What Is Market Efficiency?

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

    Explaining Economic Efficiency

    Economic efficiency is achieved when every resource is optimally allocated to minimize waste and best serve each person in that economy.
  5. Small Business

    Explaining Efficiency

    Efficiency refers to the ability to make something with the fewest resources possible.
  6. Investing

    Financial Markets: Random, Cyclical Or Both?

    Are the markets random or cyclical? It depends on who you ask. Here, we go over both sides of the argument.
  7. Investing

    Understanding the Random Walk Theory

    The random walk theory states stock prices are independent of other factors, so their past movements cannot predict their future.
  8. Investing

    Efficient Market Hypothesis

    An investment theory that states it is impossible to "beat the market".
  9. Investing

    Efficiency Ratio

    There are many types of efficiency ratios, but all measure how well a company utilizes its resources to make a profit. Business managers use these ratios to determine how well they are operating ...
  10. Investing

    Viewing The Market As Organized Chaos

    Find out how a cat and a ladybug prove markets are both random and efficient.
  1. What are the differences between weak, strong and semi-strong versions of the Efficient ...

    Discover how the efficient market theory is broken down into three versions, the hallmarks of each and the anomalies that ... Read Answer >>
  2. What are the primary assumptions of Efficient Market Hypothesis?

    Find out about the key assumptions behind the efficient market hypothesis (EMH), its implications for investing and whether ... Read Answer >>
  3. 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 ... Read Answer >>
  4. Has the Efficient Market Hypothesis been proven correct or incorrect?

    Explore the efficient market hypothesis and understand the extent to which this theory and its conclusions are correct or ... Read Answer >>
  5. Does a high efficiency ratio mean that the company is profitable?

    Understand the variety of efficiency ratios and why a high efficiency ratio does not necessarily mean a company is operating ... Read Answer >>
  6. Why are financial markets considered to be transparent?

    Understand the efficient market hypothesis and how it relates to financial markets. Learn why financial markets are considered ... Read Answer >>
Hot Definitions
  1. Magna Cum Laude

    An academic level of distinction used by educational institutions to signify an academic degree which was received "with ...
  2. Cover Letter

    A written document submitted with a job application explaining the applicant's credentials and interest in the open position. ...
  3. 403(b) Plan

    A retirement plan for certain employees of public schools, tax-exempt organizations and certain ministers. Generally, retirement ...
  4. Master Of Business Administration - MBA

    A graduate degree achieved at a university or college that provides theoretical and practical training to help graduates ...
  5. Liquidity Event

    An event that allows initial investors in a company to cash out some or all of their ownership shares and is considered an ...
  6. Job Market

    A market in which employers search for employees and employees search for jobs. The job market is not a physical place as ...
Trading Center