Predicting randomness

[cnms2]

Quote from oddiduro:
Studying under Jack was very rewarding, his techniques help me view the market in an organized way. He taught how to use volume in analysis

I trading his method for awhile, then the bug bit me to try to develop my very own system, so I began to do that.

Jack does not believe that the markets are random. He believes that volume is a leading indicator to price, as it often is.

However, it often is not, and I have a quirk that the system that I ultimately wanted to use must work in all markets, and under any conditions.

Thanks for asking

I just found several threads about Jack's method. I wonder what's your opinion: is it a making money method? Are you still trading it? It seems that most its followers just try to tweak it for better results, and don't necessarily understand or follow the spirit of the method. Jack's posts are quite difficult to follow (I read one post explaining that he actually writes so on purpose to transfer some more difficult concept directly to his pupils' subconscious ).

In my opinion trying to find an universal system that works in all the markets is a huge task, with little reward. Markets have different volatility, cycling, open interest, risks, and other characteristics, so I think it's better to apply an appropriate system to each one of them.

 

[cnms2]

Quote from bighog:
Humans are random, if they were not random we would be living in Utopia by now. But since humans are self gratifying in their pursuits of Utopia the goal is never reached simply because their reach for self gratification can and will come at the expense of others.

We see this also in the markets, the learned will empty the pockets of the unlearned.

Life continues on....

PS, Bush is not random though he is a simple "DOG and PONY" show. First he used the "Saddam" card to drum up the war. Second he used the "TERROR" card to enter the war. Now he is using the "PATRIOT" card to defend a losing war and the publics beating drum for real answers not just rhetoric.

As they would say on the World Poker Tour show when you have a no win hand: .....he is drawing dead. How sad is that?....

This is proof of non-randomness of human behavior: when you read bighog's posts there is a very high probability to find some Bush bashing. Maybe this is one explanation of why humans don't live already in Utopia: we're so entrenched in our prejudices.

As I said: predictable non-random noise ...

 

[FanOfFridays]

Quote from Perseus:


My point was sort of missed. It is this: markets don't drive themselves, they are largely event driven (the fundamentals)

Thanks for a good post Perseus - there's a lot here. It brings up a couple of questions in my mind but please understand - I am asking because I need more information, not necessarily because I disagree.

You mentioned that markets are driven by fundamentals, but I would argue that this isn't always the case. In fact one of the best opportunities for traders occurs when a market starts to get driven by emotion as opposed to fundamentals. Another point would be that in fact, there isn't one stock on any American exchange that is valued fundamentally; they are all valued speculatively, aren't they? That's what P/E ratio shows. If markets were 'fundamentally fundamental', then there would be no speculative value and we wouldn't have to look at people's responses to events, would we?

But in this case we have two coupled nonlinear systems that take input from a highly nonlinear world: the financial system, and the human response to events (irrational most of the time). The system itself (people+markets) is nonrandom but highly nonlinear (if you have enough information about it and nobody ever does), but the external events that drive it can add even more unpredictability making the whole thing quite hopeless in the exact sense.

I am not 100% clear on this distinction; that is, the one between the markets and the 'external events that drive (them)'. To me, we cannot analyze 'the markets' as i.e. linear or nonlinear or random or efficient or whatever independently of the external events that drive them. If the two 'coupled nonlinear systems' you refer to are supposed to be 'the markets and human response to events', I would say that they are closer to being one and the same, or that the markets are an artifact of human responses to events.

I have a feeling that this will end up being a semantical issue. I just had to point this out because it struck me while I was reading your post.

I think the best people can do, (in terms of predicting) is 1) look for situations where it takes some time for all participants to respond. Then if you think you know what they will do (in the aggregate average sense) you can front run them

Agreed. This is why people can make money trading the markets, or one of the reasons. It takes time for people to react. And the old cycles of accumulation and distribution are still in place, and probably operating just like they did in the days of Larry Livingston. That is why Reminiscences is such a great read for newbs. His accounts of being hired to move blocks of stock into the public's hands was a huge revelation for me. We've also heard how 'the public' is always the last into a market even if there isn't active distribution going on, and this can be played as well.

In fact there are many different situations like this that can be played, some based on fundamental information and others based on assumptions about human behaviour. The market gives us information, and we act on it.

The markets are predictable... just like it's predictable that when I say I have posted my last on a thread, I will show up again.

 

[FanOfFridays]

Quote from oddiduro:

If human behavior is so predictable, then why don't we humans learn from past behaviors?

Why are there bubbles?

Why are there booms and busts?

(Steps up on soapbox)

Because we are really only one step out of the primordial ooze, savages in Saville Row suits. We are fooled by the achievements of the scientific age into thinking that our base behaviours have changed at pace with changes in the external world, but nothing could be further from the truth. We are driven by the same instincts that drove the cavemen 30,000 years ago.

The fact that we don't learn from past experiences isn't evidence for the unpredictability of human behaviour, IMO. It may be evidence to the contrary.

Are bubbles, booms and busts are evidence of the predictability of human behaviour?

(Steps down from soapbox)

(Steps back up on soapbox)

Another bit of evidence relevant for traders is that experiment where they test people to see if they are are more afraid of a taking a small loss or letting a winner run. Most people do exactly the wrong thing. Their behaviour is driven by fear, a primordial and predictable response. (Hope everyone knows which experiment I'm talking about, I can't go and find the citation right now).

Machine behaviour is predictable because machines are hard wired.

So are we, partially. The part of us that is results in predictable behaviour, just like it does in machines. Snapping your hand away from a source of extreme heat is a behaviour, right? It's all behaviour.

Will it change? Machines may eventually overcome their hard wiring, or we may be able to program them in such a way that they are able to do so. Same with us. Sure, it might happen... but not in a time frame that has any meaning for us, here and now.

(Steps down from soapbox)

 

[FanOfFridays]

Quote from jamis359:

OK, I'll predict a few stocks to try to disprove the "unpredictable randomness" theory.


I predict these will go up at least 10% in the next few weeks or so: IDN,SBEI,NETM

Way to go jamis. That cuts through all the (my) talk nicely. I tried earlier to cite supply and demand as a factor which creates predictability but it didn't make a dent in the random-walkers' resolve.

 

[murdog]

Quote from Perseus:


Human behavior is not predictable, i disagree.
the events that drive human behavior are not predictable, nor is the exact response to those events.
hurricane Katrina and 9/11 are examples. your own response to a given event may differ depending on all circumstances.

Hmmm, I'll throw this one out there... I will bet you any amount of money that there will be at least one more post to this thread after this one. I'm predicting that a human out there somewhere will respond either to someone else's post or perhaps even this one.

 

[FanOfFridays]

Quote from murdog:

Hmmm, I'll throw this one out there... I will bet you any amount of money that there will be at least one more post to this thread after this one. I'm predicting that a human out there somewhere will respond either to someone else's post or perhaps even this one.

Ok! I'll take that bet! You can't say for sure that someone will respond! A random meteor hit might take out the servers and those whom they serve in the next 5 seconds.....


Errrr.....

Hmmm... I guess that was a good trade, based on probability.

 

[murdog]

Quote from oddiduro:

If human behavior is so predictable, then why don't we humans learn from past behaviors?

Why are there bubbles?

Why are there booms and busts?

I didn't say that human behavior is unflawed, I said it was predictable. It's those predictable flaws that allow some people to make money in the market while a lot of people lose money.

There will be people that want to hop on the bandwagon even if it's too late. I'd suggest that the masses have a herding mentality. Take a look at CMGI through the tech bubble and bust. It's valuation was absurd, but the stock kept going up because people targeted it as a hot stock and wanted to get in on the party and the free money (human behavior). At some point there just wasn't any more willing money to throw senselessly at the stock and thus the ensuing crash, people wanted to get the hell out while they could.

There are people when reading a chart will see that a stock always bounces off it's 200 dma, so they will time their entries and exits accordingly and eventually wreck the indicator.

Institutions, retail, and traders all have their reasons for getting into and out of a stock. If you can identify the money you have your first clue as to what type of action the price of the stock might have.

Heck, look at the stupid things that people do to a stock after Jim Cramer talks about it. That's human behavior affecting a market. If there isn't much institutional power in one of the stocks he mentions, in most cases I'd predict the stock will see a sharp rise and then gradually settle back down... and sometimes not so gradually. After time the Cramerites will learn that jumping in on one of his picks the next trading day is stupid and they will eventually stop doing it. So in essence humans do learn, but there's always the same people looking for a freebie in the market (many of the traders here, including myself), and there's always new and very green, unseasoned money coming to the table.

The traders and investors that can identify an edge early on and also remained disciplined enough to not push their luck too far with it will make money off of other people's behavior.

 

[murdog]

Quote from murdog:


There are people when reading a chart will see that a stock always bounces off it's 200 dma, so they will time their entries and exits accordingly and eventually wreck the indicator.

I know it's lame to quote myself, but I want to add, that because of human behavior and not randomness someone could most likely write a system to make money off of the very predictable ultimate failure of any indicator that has been established on a particular stock.

 

[cnms2]

We have the tendency to look for Holy Grails in everything, so we're looking for a system that makes money in any market and for every issue, we talk about predicting all humans' behavior in the same way. Because we can't find such a Holy Grail we tend to conclude that we can't predict neither of them. But if we restricted ourselves to predicting the behavior of smaller groups (of stocks, and of humans), we could do it with higher probability.

The Rolling Stones:
"You can’t always get what you want
But if you try sometimes you just might find
You get what you need"

If you trade options you know that they have negative expectancy due to the slippage and commissions, so looking for an always winning options trading strategy is futile. If you understand this you give up your quest (and maybe you become a market maker). The sooner you understand it, the sooner you learn to use the options for what they are, and you learn that you have to look at the underlying's price and the option's implied volatility, and use the appropriate strategy for your forecast.