Options pricing models are proof that markets are pretty efficient. This does not necessarily mean that asset prices are correct, just that they are the best guesses and cannot be beaten consistently. Active managers effectively think or pretend they can beat the options pricing model.
While at UBS, I analyzed 18 months of trading history on my trading floor, separating out every trade done by the bank for its own book. I inspected hundreds of thousands of trades. Over that period, trades done for the bank’s own book lost exactly the trading costs. i.e. the spread and brokerage fees. This effectively meant that the securities could have been randomly chosen with the same result.
I argued trading desks could make more money if they didn’t trade so frequently. However, trading departments and brokers had what they believed to be a mutually beneficial relationship. Many risk-managers traded simply for the sake of trading, while allowing their views to flip/flop constantly. The strangest things would impact their decisions. One trader told me that if he didn’t know which view to take that day, he would go long $/DM if the left elevator came first, but if the right came first, he would go short.
I don’t think shareholders know that their money is occasionally being invested on the basis of which elevator door opens first.
There had to be an opportunity in this irrational behavior. When we fired up our own fund, we made only two basic assumptions: that global GDP would continue to grow and that diversification works.