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Abstract
This study examines the random walk hypothesis to determine the validity of weak-form efficiency of major stock market in India, BSE. The study uses daily observation over the span from 3rd July 2007 to 31st December 2011, comprising a total of 1116 observations. The random walk hypothesis is examined using Auto correlation test, unit root tests, Augmented Dickey-Fuller test and the Runs test. The result of ADF and unit root tests clearly reveals that the null hypothesis of unit root is convincingly rejected in the case of stock market returns of BSE SENSEX and the industry indices. This suggests that the Indian stock markets do not show characteristics of random walk. But the ACF and Unit root test does not show characteristics of random walk. This implies that the Indian stock markets are not weak form efficient. This provides an opportunity to the traders for predicting the future prices and earning abnormal profits on the auto industry. The implication of rejection of weak form efficiency for investors is that they can better predict the stock price movements.
Key words: Weak form efficiency, Auto correlation, unit root test, Augmented Dickey-Fuller test, Runs test, random walk, BSE SENSEX, Portfolio.
The efficient-market hypothesis (EMH) asserts that financial markets are "informationally efficient." That is, one cannot consistently achieve returns in excess of average market returns on a risk-adjusted basis, given the information publicly available at the time the investment is made. There are three major versions of the hypothesis: "weak," "semi-strong," and "strong." Weak EMH claims that prices on traded assets (e.g., stocks, bonds, or property) already reflect all past publicly available information. Semi-strong EMH claims both that prices reflect all publicly available information and that prices instantly change to reflect new public information. Strong EMH additionally claims that prices instantly reflect even hidden or "insider" information. Since the research contribution of Fama, there is a common observation among analysts, researchers and practitioners in financial economics that stock prices or returns exhibit random walk behaviour. This randomness, which forms the theoretical basis of the weakform efficient market hypothesis, states that successive stock prices or returns are independently and identically distributed; that past stock prices have no predictive content to forecast future stock prices. Statistically, the random...