There are two basic questions about the financial markets: how efficient are
the markets and will the markets become more efficient over time.
A way to assess the validity of a theory on share prices of firms is to
examine its consistency with theories on other aspects of firms.
From the efficient market theory, a company’s stock has a high return because of some
unforeseeable events that cannot be predicted.
However, from the researches in business strategy, a company does well often because it persists in a good strategy for a long time before the competitors and the stock market react.(Collins and Porras, 1994)
Take Wal-Mart as an example. One of its most
important strategies is to set up large discount stores in small communities.
The early entry of one large store in a small community preempts the entry
of other big stores.
The resulting local monopoly ensures high level of profit.
Since the value of information is positively related to scarcity, a player
adopting a superior strategy will keep quiet about it. To keep a low profile,
Wal-Mart avoided opening new stores where Sears and K-mart already had
This gave other giant retailers the impression that Wal-Mart was
not very competitive.
Hence other retailers were less likely to imitate the
strategies of Wal-Mart.
In fact, the strategy of local monopoly in small rural
communities was not copied by other giant retailers such as Sears and Kmart
for a long time for they thought small communities were a too small market for
The extensive time lag in adopting a superior strategy from a
competitor is not consistent with efficient market theory, but is a natural
result from information theory.
Although mature companies in stable industries have been
heavily studied, the emergence of new industries or new organizational
structures, which are not well understood by the investment public, may
seriously affect the real value of companies.
For example, the emergence
of Wal-Mart greatly affected the value of Sears, Kmart and the other established
retailers. So even if one did a lot of research on Sears, You would not have been able to
value Sears accurately if you did not understand the growth dynamics of
Information, entropy and evolutionary finance