What is Weak Form Efficiency?

Weak form efficiency is one of the concepts that are part of what is known as efficient market theory. As a pricing theory that is utilized in investment situations, this concept is concerned with how a market evaluates or assesses information associated with a given security, and relates that information back to the unit price of the security. Unlike other ideas that are part of the efficient markets theory, weak form efficiency states that the impact of information such as technical analysis plays little to no part in determining the price of the security, and that factors such as past performance in the marketplace is more important.

The idea of weak form efficiency can be contrasted with the approach found in another concept of efficient market theory known as semi-strong form efficiency. This idea holds that all public information has some bearing on the calculation of the current price of a given security. Public information may include such factors as the past performance of the security, but also include factors such as economic shifts within an industry, changing political climates, or the anticipation of some type of negative impact of a natural disaster on the financial security of businesses within that industry. With weak form efficiency, not all types of public information are considered to have an impact on stock prices.

Both weak form and semi-strong form efficiency do allow for the possibility of information that is not generally known to have an impact on stock prices. For example, if an investor learns that a major executive at a particular company is about to resign and accept a position with a competitor, he or she may choose to invest in shares issued by the competitor before the actual resignation is announced. This positions the investor to secure those shares before the announcement has a chance to exert any degree of influence on the value of the stock. While the use of this type of information may or may not be illegal, depending on current federal regulations, the investor still stands the risk of earning little to nothing on the venture, especially if the announcement does nothing to increase the value of the purchased shares.

There is no consensus among investors or analysts as to the accuracy of efficient market hypothesis in general, or of weak form efficiency in general. Some believe the concept has merit and is worthy of consideration in certain investment situations. Others find the approach to be somewhat helpful, but not as broadly applicable as others pronounce. As with most approaches to investing, it is possible to cite examples where weak form efficiency seemed to apply, as well as situations where the theory did not appear to have an relevance to changes in a security price.