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Same thing with Tesla. I was going to buy shares before the pandemic, stating that they've been able to double in size every 4-5 years (in terms of factories built). However I was discouraged because people said that because this information is already known by market participants, that the growth is already priced into the stock. Making the price of each share potentially overvalued. Yet the price of each share has nearly tripled in value since then.

Also similar with sector ETFs. For example I've read that the cloud computing market will grow to 2 trillion by 2030 and was curious if it would be a good idea to buy cloud ETFs. Yet I still get the same response, that everything is already priced in. Yet Cloud ETFs like SKYY have still maintained a 20% CAGR for the past 10 years.

People like to list the efficient market hypothesis for why the price of a stock is never undervalued... But looking at the past 10 years of these stocks I just listed seems to prove that this isn't the case?

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  • Does this answer your question? Do people who buy and hold individual stocks for longer than 10+ years have a much better chance of outperforming the market?
    – nanoman
    Nov 2, 2020 at 1:50
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    "But looking at the past 10 years of these stocks I just listed seems to prove that this isn't the case?" You have not accounted for survivorship bias.
    – Flux
    Nov 2, 2020 at 2:39
  • If the A is true then B must is true, then if it turns out that B is not true then A cannot be true. IOW if the efficient market hypothesis is correct and future growth is priced in then the fact that the stocks that you cited provided outstanding returns means that the EMH is/was not correct. Dya know of any EMH geniuses that have become wealthy? Or are they teaching EMH graduate classes in college?
    – Bob Baerker
    Nov 2, 2020 at 3:21
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    @BobBaerker I can't tell what's serious and what's rhetorical there. EMH says expected future growth (based on all public information) is priced in. Some companies will perform better than expected (leading to "outstanding returns"); some will perform worse; we don't know which is which until after the fact.
    – nanoman
    Nov 2, 2020 at 4:24
  • As Flux accurately says, the list given in the title is meaningless post-facto bias. (Interestingly the identical list appears in many similar question titles!)
    – Fattie
    Nov 2, 2020 at 16:23

3 Answers 3

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My take, very much as a layman in stock analysis, is that EMH prices-in the expected (or predicted) future growth.

No one can know what the future will bring. Instead, based partly on past-performance (among many other factors such as how the company is run, potential markets for their goods/services etc.), people can make a range of predictions for future growth (or decline). To each of these outcomes, they can assign a (somewhat subjective) probability. From these you can calculate an overall expected growth. It is this expectation that is factored into share prices: higher expectations will result in a higher share price.

From a comment, you say:

But can we really say that companies like Amazon, Microsoft, Google and Apple were risky investments?

Yes, of course they were risky investments (and still are, though the level of risk is greatly reduced). Go back to the Dot-com boom/bubble of the late 1990s and early 2000s. Amazon was just one player in the emerging online shopping market and Google "just" another search engine: they survived; many similar companies didn't. Microsoft and Apple were not "of" the dot-com era in the same way, but in 1997 Apple was only weeks away from bankruptcy1 when they bought NeXT, Steve Jobs returned, and Microsoft provided a $150 million injection.

Yet on average they’ve quadrupled in value for the past 5 years. And even more than that for the past 10 years.

If a company turns expected/predicted growth into actual growth, and does so over a number of years, then – other things being equal (which they rarely are) – it becomes more likely that they will continue to achieve a given level of growth. This in turn will push up the overall expected growth, and the share-price.

1 See 1997–2007: Return to profitability and the last sentence of the preceding section.

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If you believe in market efficiency, future growth is indeed priced in. With risky growth comes higher potential returns. In theory, this explains why there are outperformers even when the future is priced-in. The potential outperformance is sort of like a reward for taking increased risk. When you buy a "risky stock", you sign up for two main possibilities (relative to the market):

  1. Outperformance — Great! This is compensation for enduring the higher risk of the stock.
  2. Underperformance — Too bad! This is what you signed up for when you bought a high risk stock!

People like to list the efficient market hypothesis for why the price of a stock is never undervalued... But looking at the past 10 years of these stocks I just listed seems to prove that this isn't the case?

From my understanding, this is not what the efficient market hypothesis (EMH) claims. EMH does NOT say that market efficiency = all future returns are zero (or equal to each other). Instead, EMH says that it is possible to outperform, but the outperformance is attributed to the increased risk taken. So high risk = high reward, low risk = low reward. It is in this sense that the market is efficient. EMH says that there is no free lunch in the sense that you cannot get low risk with high reward.

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  • thanks. But can we really say that companies like Amazon, Microsoft, Google and Apple were risky investments? Yet on average they’ve quadrupled in value for the past 5 years. And even more than that for the past 10 years. Furthermore what about less risky investments such as sector ETFs? If a sector is projected to do well over the next decade, wouldn’t that be reflected in the price? Yet US tech ETFs such as QQQ and VGT has still given 20% returns in the past 12 years.
    – Eric Gumba
    Nov 2, 2020 at 2:18
  • @okmanl risk is always forward-looking. You can't say that these were not risky companies brecasue they did well, since you had no foreknowledge that they would do well. For every Amazon there are dozens of other online retailers that failed. And who's to say that another company won't come along in the future and displace one of them?
    – D Stanley
    Nov 2, 2020 at 13:16
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Concepts like

"future growth is priced in..."

are just phrases, collections of words, which Economists, and similar, use when making TV appearances / writing articles, and so on, so that they can have paying careers.

Nobody has a clue, about anything, at all, about markets.

The sense of your question is basically:

"Is all this stuff about pricing models nonsensical bumpf?"

The simple answer is

"Yes, it's hot air. Nobody has a clue."

You mention

"the efficient market hypothesis..."

Physicists and Mathematicians and Structural Engineers have things like "hypothesis".

People who babble about markets, use words like "hypothesis" because it makes one sound really Important.

A question "according to the 'EMH' X should happen but Y happened" is like an arcana question about the details of astrology.

Apple is, simply, the ultimate example from all of history of the biggest Utter Dog Stock Of All Time. It was completely flat for 20+ years. When it should have obviously been soaring. And then in contrast, lately it's had a period of price movement upwards spectacularly beyond any rational basis. Maybe it will now have another 20 years where it's dead flat.

Talk about markets from Economists, Market "Scientists", phrases with "hypothesis" and other pseudo-scientific terms added, is valueless.

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