Predicting randomness

[nicholaf]

Quote from Equalizer:

I just love it when analogies are mis-used!

But tell me something Hank, is this really analogous? I mean, a coin flip is just that, some bored geezer tossing a coin. If it is a fair coin, and fair tossing method, and we assign a value of +1 for heads, and -1 for tails then the long term expected value is 0, i.e. 50% heads, 50% tails,

Price, on the other hand, can move by 0.25pts up or 0.75ps down, then gap up 2 points, etc, etc, and unfotunately, it isn't generated by some geezer tossing a coin, rather it is a consensus amongst a group of people, or computers programmed/operated by people, having different needs, different views, different utility and risk-profiles.
And lets add other info, like volume, transactions per unit time, volume per unit time, B-A-spread, etc.

"Ahh, yes" you might say, "but the ensemble effect appears to be random - don't we model prices by GBM?".
The key words being, "model", "appears".

The key questions being, "What is price", "what is random", "how can I profit from this"?

Something to think about...

great post. theory is most dangerous when applied to the real world when assumptions are commonly violated

 

[oddiduro]

Quote from marketsurfer:

nicely said, oddiduro.



surfer

Thanks.....and welcome back.

 

[dont]

Quote from toe:



Here's a thought. Insider traders dont believe in the random walk theory. I mean if the markets were truly random then if an insider trader buys a month before an announcement, he/she will be equally liable to suffer a loss as have a win.

Does that mean that the market was non-random to the insider trader, but random to the rest of us? No, it means that the markets may be partially, or even mostly random. But events do happen that can be foreseen by somebody.

Only one type of insider trading is certain; "we are bankrupt". Think of the deficit number, if I knew beforehand it was going to be a record, I would have gone heavily short the dollar and seen my arse

 

[oddiduro]

Quote from toe:

It is if its a two headed coin


Actually coin tossing is not an appropriate annalogy to the market because in a coin toss we have advanced knowlege of how the "observations" will be created, by a "fair" coin toss. In the markets, for all we know the "coin" might be slightly unfair, or worse it might fluctuate between fair and unfair (random and non-random).

Here's a thought. Insider traders dont believe in the random walk theory. I mean if the markets were truely random then if an insider trader buys a month before an announcement, he/she will be equally liable to suffer a loss as have a win.

Does that mean that the market was non-random to the insider trader, but random to the rest of us? No, it means that the markets may be partially, or even mostly random. But events do happen that can be foreseen by somebody.

Insider trading has an element of non randomness, but this is largely an anamoly.

Stock prices are not rational, as thier P/E is not 1:1. So if that insider keeps buying without without insider knowledge, he will most likely return those gains he made with inside information.

 

[Charlie Dow]

Quote from Equalizer:

I just love it when analogies are mis-used!

But tell me something Hank, is this really analogous? I mean, a coin flip is just that, some bored geezer tossing a coin. If it is a fair coin, and fair tossing method, and we assign a value of +1 for heads, and -1 for tails then the long term expected value is 0, i.e. 50% heads, 50% tails,

Price, on the other hand, can move by 0.25pts up or 0.75ps down, then gap up 2 points, etc, etc, and unfotunately, it isn't generated by some geezer tossing a coin, rather it is a consensus amongst a group of people, or computers programmed/operated by people, having different needs, different views, different utility and risk-profiles.
And lets add other info, like volume, transactions per unit time, volume per unit time, B-A-spread, etc.

"Ahh, yes" you might say, "but the ensemble effect appears to be random - don't we model prices by GBM?".
The key words being, "model", "appears".

The key questions being, "What is price", "what is random", "how can I profit from this"?

Something to think about...

Damn well said from a clear head. Bravo!

 

[nononsense]

Hi Baron and/or moderator

nononsense is missing a genuine YAWNING smilie.

 

[oddiduro]

Quote from Charlie Dow:

Damn well said from a clear head. Bravo!

"people, having different needs, different views, different utility and risk-profiles."

And this is predictable?

Is there any evidence that this is predictable?

 

[jaronimo]

Quote from oddiduro:

"people, having different needs, different views, different utility and risk-profiles."

And this is predictable?

Is there any evidence that this is predictable?

You don't predict.

You take the path of least resistance.

 

[toe]

Quote from dont:

Only one type of insider trading is certain; "we are bankrupt". Think of the deficit number, if I knew beforehand it was going to be a record, I would have gone heavily short the dollar and seen my arse

Sure, just becouse there's non-random behaviour doesn't mean everyone knows its there or how to trade it. If theres selling on a good announcement then either someone knew in advance, or many people expected it. If many people expect correctly then your inside information is not much good.

Quote from oddiduro:

Stock prices are not rational, as thier P/E is not 1:1. So if that insider keeps buying without without insider knowledge, he will most likely return those gains he made with inside information.

I think you're confusing price rationality and trader rationality. If a trader acts irrationally then his bids/offers will be seized upon by more rational traders. Thats why irrational trading creates non-random markets (non-random to the rationally minded).

If traders were completely rational then the markets would be completely random, the moment an announcement was made the price would imediately change to one that reflects the true value presicely (and the entire market would agree). Now we all know that doesn't happen, prices are affected by irrational traders every-day.

The fact that no-one knows the true price of the markets means that the current price is only ever the best bet of the market. Much of the time no-one knows whether that 'best-bet' is true or not. But a good trader knows the odds, and knows that in certain circumstances the odds are high that the 'best-bet' of the market is wrong. In these circumstances many traders are being irrational (creating a non-random market), and a few traders can take advantage of it.

 

[ak15]

Predicting randomess may be an exercise in futility. How do you explain a stock that reports earnings, is up 5% in after hours trading, is up 6% in pre-market hours trading the next day and closes the day down more than 4% If a simple occurrence such as this does not lend itself to any measure of reason then so much for predicting randomness.