What is the theory of random walk?
The theory of random walks claims that future stock prices cannot be predicted on the basis of past movements. Although they admit that long -term market prices are rising, they state that short -term movements are virtually random and unpredictable. It rejects both technical analysis and basic analysis as valid tools to predict shares behavior. Proponents of the theory of random walk usually advocate long -term investment rather than trying to chase the market.
Although the theory was first examined in 1953, it did not gain popularity until the book a random walk on Wall Street published the American economist Burton Malkiel in 1973. In the function of a random walk, the trajectory is determined by a sequence of random steps, either up or down. It can accurately describe a number of natural phenomena, including the roads of gas and animals. This random behavior is what the supporters of the theoryHe sees random walks in warehouse charts.
The theory advocates usually agree that market prices will increase in the long run. They recommend investors to use purchasing and holding strategy rather than attempt to timing. While advocates of theory agree that it is possible to overcome the market, they claim that it only comes with the risk attached. It is impossible to remove this own risk, no matter how well the investor is, says the theory of random walk.
On the other hand, a technical analysis of the performance study is a stock based on past trends. Technical analysts usually try to use the price and volume history of shares to predict future movements of shares. They claim that investors are not rational agents that many economists do, but rather they are.emise emotions, cognitive mistakes and any preferences. This inherent irrationality, says TechništAnalyst, leads to predictable behavior. Supporters of the theory of random walks reject these claims and claim that such trends would be self -harmful as soon as investors recognize them.
Another challenge for the theory of random walks is basic analysis. Although it differs completely from technical analysis, the supporters of the theory of random walk are also rejected. The basic analysis focuses on the prospects of the company - its offered products, financial health, business plan, competitors, etc. - as a means of determining its future performance of shares. It tends to assume that markets will behave in an effective and rational way and that they will adapt quickly.