ABSTRACT
In the rest of the book (Chapters 7 to 9), we will apply hypothesis testing and model selection procedures to models. Arbitrage pricing theory (APT) assumes that share prices are efficient in adjusting to new information in stock markets. Due to the price efficiency assumption, which implies that the current share prices are equal to their true value, the no arbitrage condition of the APT is realized. The efficient market hypothesis (EMH) and the APT share the same root as neoclassical economics and are built on some common assumptions, such as having perfect market competition in stock markets. Because of this very important inter-relationship between the APT and the EMH, we will include a section on the EMH at the start of this chapter.
