Adaptive Markets and the New World Order

December 30, 2011 In the Adaptive Markets Hypothesis (AMH) intelligent but fallible investors learn from and adapt to changing economic environments. This implies that markets are not always efficient, but are usually competitive and adaptive, varying in their degree of efficiency as the environment and investor population change over time. The AMH has several implications including the possibility of negative risk premia, alpha converging to beta, and the importance of macro factors and risk budgeting in asset-allocation policies. ∗ Harris & Harris Group Professor, MIT Sloan School of Management, and Chairman and Chief Investment Strategist, AlphaSimplex Group, LLC. Please direct all correspondence to: Andrew W. Lo, MIT Sloan School of Management, 100 Main Street, E62–618, Cambridge, MA 02142. I thank Tom Brennan, Jerry Chafkin, Jayna Cummings, Arnout Eikeboom, and Bob Merton for helpful comments and discussion. The views and opinions expressed in this article are those of the author only, and do not necessarily represent the views and opinions of AlphaSimplex Group, MIT, any of their affiliates and employees, or any of the individuals acknowledged above.