Efficient Market Hypothesis and Capital Asset Pricing Model in UK Financial Markets

Finance
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Introduction
The present report is developed for providing an understanding of the financial markets
in the UK through the use of theories of Efficient Market Hypothesis (EMH) and Capital Asset
Pricing Model (CAPM). The financial markets in the UK refer to the capital market involved in
buying and selling of long-term debt and equity securities. The UK capital markets play a major
role in promoting the economic growth and prosperity and thus are a strategic asset for the
country. It has been estimated that about £4 trillion of capital is invested in the financial markets
in the form of pension funds, insurance policies and individual savings (Wright, 2017). In this
context, the major motivation behind undertaking the present report is to evaluate the
significance of EMH and CAPM to the UK financial markets. The research report seeks to
address the following research question:
‘What is the fundamental features of EMH and CAPM and their significance in the UK financial
markets in the 21se century’?
Fundamentals of EMH and its Relevance to UK Financial Market
The theory of EMH is a type of investment theory as per which the price of an asset fully
reflects the available information and thus it is not possible the market by the investors. Thus, as
per the theory the investors cannot realize higher market returns by predicting the stock
movements on the basis of current and past information. This is because all the information is
quickly absorbed in the stock prices and therefore all the investors would realize similar returns.
The main criticism of the theory is that its inefficiency in providing an explanation regarding the
abnormal returns realized by investors through the use of past, present and future information.
However, despite this drawback the theory is used for predicting the movement in asset prices
and its weak form is used in technical analysis. The UK capital market is till using the theory of
EMH due to its continued dominance in the market for analyzing the price changes in the stock
prices. The theory is providing an effective theoretical context for gaining an understanding of
the movements in stock prices as per the financial information. The practical application of the
theory is limited as it is not able to determine the returns to be realized by an investor on the
basis of risk taken (Harder, 2010).
Effectiveness of the CAPM model
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