Why might the efficient market hypothesis be less likely to hold when fundamentals suggest stocks should be at a lower level?

The Efficient Market Hypothesis (EMH) posits that all available information is already incorporated into the price of securities, and thus it is impossible to consistently achieve higher than average market returns. However, there are several reasons why the EMH might be less likely to hold when fundamentals suggest stocks should be at a lower level:

1. Investor Irrationality: The EMH assumes that all investors are rational and make decisions based on available information. However, in reality, investors can be influenced by cognitive biases and emotions, leading to irrational decisions. For example, during a market bubble, investors may continue to buy overpriced stocks due to greed or fear of missing out, even when fundamentals suggest that these stocks are overvalued.

2. Market Manipulation: The EMH assumes that markets are fair and transparent, with no single investor able to influence prices. However, in reality, large investors or institutions may have the power to manipulate prices, leading to discrepancies between stock prices and their fundamental values.

3. Information Asymmetry: The EMH assumes that all investors have equal access to information. However, in reality, some investors may have access to insider information or superior analysis, allowing them to make better-informed decisions and potentially achieve higher returns.

4. Limitations of Fundamental Analysis: The EMH assumes that fundamental analysis accurately reflects a company's intrinsic value. However, in reality, fundamental analysis is based on estimates and assumptions, which can be inaccurate or subject to change. Furthermore, fundamental analysis may not fully capture intangible factors such as brand value or management quality, which can also influence a company's stock price.

5. Market Inefficiencies: The EMH assumes that markets are efficient, with prices quickly adjusting to new information. However, in reality, there may be delays or inefficiencies in the price adjustment process, especially in less liquid or less transparent markets.

In conclusion, while the EMH provides a useful theoretical framework, it may not always hold in practice, especially when fundamentals suggest that stocks should be at a lower level.