THE strange jittery dance that particles perform when immersed in water could be used to identify the best time to trade on the stock market.
First noticed by Victorian scientist Robert Brown, is the jerking movement exhibited by particles, such as dust or pollen, suspended in liquid or gas. Molecules in the surrounding substance collide with the larger particles, causing them to move along random paths.
at the Swiss Federal Institute of Technology in Zurich and his colleagues found that equations for Brownian motion can also be used to describe stock price fluctuations (, in press).
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Stock exchanges use financial order books to track the stock prices being requested by buyers and sellers and to record the price at the end of trading. Buyers鈥� wishes push the price down while sellers鈥� wishes push it up. The result is a price that fluctuates in the same way as a particle doing a Brownian dance.
聯Stock prices being pushed by buyers鈥� and sellers鈥� wishes act like particles doing a Brownian dance聰
鈥淚t鈥檚 not just a superficial qualitative analogy. The beauty of our work is that we have been able to show that it works quantitatively,鈥� says Sornette.
Brownian motion is random, so the model cannot predict the final price of a particular stock. But the overall motion can be used to tell the state of the 鈥渇luid鈥� 鈥� the order book 鈥� and see whether the trading environment is experiencing abnormal behaviours that might, for instance, signal a market crash, says Sornette. Traders can then make more informed decisions.
Of course, human traders have a memory of past trades that can influence their decisions in ways that mathematical models can鈥檛 predict, says at the University of Miami in Coral Gables. But previous research suggests that, in aggregate, prices tend to behave as if there is no intelligent driver behind them, no matter how smart investors may be, counters Sornette.
This article appeared in print under the headline 鈥淒ancing stock prices warn of market crashes鈥�
