How efficient is Chinese financial market

Topics: Financial markets, Economics, Stock market Pages: 5 (1429 words) Published: November 10, 2013
Introduction

Financial market is a significant factor in economy development. Through financial market, people are able to transfer their surplus funds to those who have shortage which enhance efficiency. China's financial market started relatively late compared with developed countries. After the economy reform in 1978, China's step by step build up its own financial system. With the continuous improvement of the financial markets, people are started to question about whether China's financial market can perform efficiently. According to Eugene Fama's efficient market hypothesis (EMH), at a efficient market, the asset prices should reflect all publicly available information about the value of an asset. In other words, investors cannot forecast future stock prices using current available information (Mankiw, 2007).

This essay aims at discussing the efficiency of China's financial market. Firstly, previous work on China's financial market efficiency will be introduced. And a empirical study on China's financial market efficiency using the runs test and serial correlation will be presented in second section. The reasons related to China's financial market inefficiency will be discussed in third section. A brief conclusion will be given at the end of essay. Empirical studies over China's financial market efficiency.

According to the EMH, there are three types of efficiency: weak form, semi-strong and strong form. The debate over China's financial market efficiency is mainly focus on the first type-the weak form efficiency. A capital market is said to be weakly efficient if its current share price fully reflects the historical information. Thus the preceding strategy would not be able to generate profits if weak form efficiency holds (Hillier, Ross, Westerfield, Jaffe and Jordan,2010). According to weak form's definition, it can be tested by performing a serial correlation test and runs test: if the stock prices at time t are not correlated with its previous prices, the weak form efficiency is satisfied.

There are numerous empirical studies over the weak form argument and the conclusion are change over time. The earliest study was performed by Wu (1996) using the serial correlation test on 8 and 12 individual shares for the period from June 1992 through December 1993 for the Shanghai and Shenzhen markets respectively and argued that China stock market seems weak-form efficient. After Wu, there are several studies hold different opinion. For example, Barnes and Ma in 2001 performed a comprehensive analysis on Shanghai and Shenzhen indices on a daily, weekly and monthly basis using serial correlation and runs test. Their research found out that there is significant correlation between daily indices while weekly and monthly data show similar results but to less extent(Barnes and Ma,2001). Thus they concluded that the China's financial market is not weakly form efficiency.

Runs test and serial correlation test

Considering the tests mentioned above were implemented in past, it is reasonable to use update data to examine whether China's efficiency has improved recently. The tested data was two representative stock-indexes: the SSE composite index and Hushen 300 index, all of data are collected from Sohu Finance (stock.sohu.com, 2012). These two indexes are formed by selected stocks and can well present China stock market's situation.

The most important feature of weak-form efficient is the stock price contained historic information which means that price are independent from previous price. Therefore, the fluctuation of price follows a 'random walk'. Thus whether the data is random distributed is a key criterion of these tests.

The runs test was firstly conducted on daily, weekly and monthly. The test results indicate that all the samples can reject the null hypothesis that the data series is random. Notably, all the tests are significant at 1 percent level (see Table 1).

Moreover, in order to indentify...
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