Is the existence of property cycles consistent with the Efficient Market Hypothesis?

Abstract

A number of empirical studies have confirmed the existence of property cycles in various mature real estate markets. In this paper, we will see whether these results fit in with the existing relevant theories. The efficient Market Hypothesis (EMH) is one of the cornerstones of the mainstream finance. In the context of the equity market, one of the generally accepted implications of the EMH is the future price of a security is unpredictable. The real estate market, by various empirical studies, has found to be weak form efficient. It is thus natural to infer that no property cycle exists as otherwise it would imply the predictability of property price and that is not consistent with EMH. This study, after reviewing the up-to-date literature, found the Efficient Market Hypothesis has taken on a new face; it is separated from the Random Walk Hypothesis (RWH). Due to its infallibility in empirical testing, it could well be recessed to the role of benchmarking the relative efficiency of the market. The apparent inconsistency between the existence of property cycles and EMH therefore disappears. The behavioural school of finance proclaims that market may not be efficient all the time and provides an explanation for this. Under this school of thought, the apparent conflict between the existence of property cycles and EMH again disappears.