Factors that Make an Efficient Capital Market
Factors that Make an Efficient Capital Market
Research Proposal
ASSE 4311 – Learning Outcome Assessment III/Finance
Done by: Fatimah Al – Ismail
ID: 200700525
Factors that Make an Efficient Capital Market
Introduction
The concept of the efficient market was based on the efficient markets theory (EMT).
The theory states that that the price of an asset reflects all relevant information that is available
about the intrinsic value of the asset. It applies to all types of financial securities. Discussions of
the theory usually focus on one kind of security: shares of common stock in a company (Jones
and Netter, 2003). When security prices react instantaneously and without bias to hold new
information in such a way that leave no opportunity to market participants to consistently earn
abnormal return, an efficient capital market exists (Hadi, 2006). There are parameters or factors
for a market to be considered an efficient market. There are schools of thought that believe that
all capital markets are efficient. There are also those that refute the efficient markets theory.
These will be discussed in this paper.
The present research is a study of the different factors of an efficient market and whether
these factors are present in Saudi Arabia. It will try to look at different theories and principles
regarding capitals market and focus on capital market efficiency. It will try to identify and
review factors of capital market efficiency in Saudi Arabia. Lastly, it would be able to conclude
whether Saudi Arabia’s market is efficient or not.
Motivation
My main motivation in choosing this topic is that this is very useful topic for students like
me since am finance student and for people who are interested to invest in the stock market.
Students can learn from the research as a case study of the Saudi Arabia’s capital market. With
the results of the study, interested investors in Saudi Arabia’s capital market would have added
Factors that Make an Efficient Capital Market
information that they will use if they choose to invest in the stock market. The results of the
study can also add information to the dearth of researches about Saudi Arabia’s capital market.
Also, I want to learn more about Saudi Arabia’s capital market because it is an interesting area of
finance that I could work in the future. In addition to that researching in this topic will increase
my knowledge on capital markets and prepare me for future work in this area of finance.
Problem description/statement
Financial markets are assumed to be highly efficient where the price of a common stock
multiplied by the amount of shares outstanding reflects the underlying equity value of the
company issuing that common stock (Whitman, 2007). However, some experts on financial
markets think otherwise and that not all markets are inefficient. They contend that certain
markets will be inefficient against Efficient Market Hypothesis (EMH) standards of efficiency.
Although Saudi Arabia’s capital market is relatively young in comparison with the West, it has
recently shown robustness and growth amidst financial problems in the West and political
challenges in the Middle East and Africa.
This research will seek answers to the following research problems:
 What factors make an efficient capital market?
 Based on these factors, does Saudi Arabia have an efficient capital market?
Formulation of a hypothesis
The research problems call for an inductive set of hypotheses that include:
Null Hypothesis 1: There are no factors that identify an efficient capital market
Alternative Hypothesis 1: There are factors that identify an efficient capital market
Factors that Make an Efficient Capital Market
Null Hypothesis 2: There are no factors that identify Saudi Arabia as an efficient capital
market
Alternative Hypothesis 2: There are factors that identify Saudi Arabia as an efficient capital
market
Research methodology or strategy
This research is a qualitative research as it looks to find qualitative data and information
to answer the research problems paused and to find the conclusion to the hypotheses that were
set. An intensive review of literature will be done. From this extensive review of literature, an
analysis will be done and a subsequent conclusion will be made from the analysis.
Clarification of concepts and terms
A market is any financial or commercial arena where participants reach agreement as to
price, and other terms, which each participant believes is the best reasonably achievable under
the circumstances (Whitman, 2007).
A capital market is a market in which individuals and organizations/institutions (both
private and public) trade financial securities in order to raise funds. Thus, this type of market is
composed of both the primary and secondary markets. Both the stock and bond markets are parts
of the capital markets. For example, when a company conducts an IPO, it is tapping the investing
public for capital and is therefore using the capital markets. This is also true when a country's
government issues Treasury bonds in the bond market to fund its spending initiatives
(investopedia, 2012).
Factors that Make an Efficient Capital Market
A security market is generally defined as efficient if (1) the price of the security traded in
the market act as though they fully reflect all available information and (2) these prices react
instantaneously, or nearly so, and in unbiased fashion to new information" (Dyckman and Morse,
1986).
A security market is inefficient when the result of stock price is not accurately reflecting
new information and that the investor is unable to interpret the new information
correctly or no access to the new information, the transaction cost in trading security is an
obstruction for free trading, the restriction on short sale, and finally, the investors might be
misled by the change in accounting principles (Dyckman and Morse, 1986).
Framework
The final report will be divided into different parts: Introduction, Motivation for doing
research, Research problems, Research hypotheses, Definition of terms, Review of literature,
Research methodology or strategy, Analysis of data, Conclusion and recommendation,
References and appendices.
Sources
 Hadi M (2006). Review of Capital Market Efficiency: Some Evidence from Jordanian
Market. International Research Journal of Finance and Economics ISSN 1450-2887 Issue
3. © EuroJournals Publishing, Inc. Retrieved on September 16, 2012 from website:
http://www.eurojournals.com/finance.htm
 Jones S and Netter J. (2008). Efficient Capital Markets. Retrieved on September 19,
2012 from website: http://www.econlib.org/library/Enc/EfficientCapitalMarkets.html
Factors that Make an Efficient Capital Market
 Makiel B.G. (2003). The Efficient Market Hypothesis and Its Critics. Retrieved on
September 19, 2012 from website:
http://www.vixek.com/Efficient%20Market%20H(2ypothesis%20and%20its%20Critics
%20-%20Malkiel.pdf
 Schwert W. (2003). Anomalies and Market Efficiency. Handbook of the Economics of
Finance, Edited by G.M. Constantinides, M. Harris and R. Stulz. Retrieved on September
18, 2012 from website: http://schwert.ssb.rochester.edu/hbfech15.pdf
 Whitman M. (2007). Are markets always efficient? Retrieved on September 19, 2012
from website: http://qn.som.yale.edu/content/are-markets-always-efficient
Qualifications and experience
I hope that I would be able to complete this research because this area is a part of my
major which is finance. I had taken courses about stocks and securities in my courses in the
university and I have enough knowledge about the topic that I believe can help me accomplish
the work needed to finish the research. Finally, I like the topic and I find it very useful for my
future work. I am strongly motivated to work on it.