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IAI Actuarial Core Principles · Economic Modelling · Rational expectations theory and the efficient markets hypothesis

An Indian pension fund trustee believes that the equity market is semi-strong form efficient. Which investment strategy is most consistent with this belief?

A passive, diversified, low-cost index portfolio is most consistent. If prices already reflect all public information, analysing results, charts or economic releases cannot reliably earn excess returns, so active trading only adds costs without compensating benefit.

  1. ATrading on published quarterly results to earn consistent excess returns
  2. BHolding a broadly diversified passive index portfolio and keeping dealing costs lowCorrect
  3. CUsing past price charts to time purchases of individual shares
  4. DConcentrating the portfolio in a few shares identified from public analyst reports
  5. Switching sectors monthly based on newly released economic data

Explanation

Under semi-strong efficiency, prices already reflect all public information, so neither fundamental analysis nor technical analysis should produce consistent excess returns. The sensible response is low-cost diversified passive holding. The other options all rely on public information or past prices to beat the market.

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