Exploring Markov Chains in Stock Market Trends

Primer

In a previous article, we utilized a very important assumption before we began using the concept of a random walk (which is an example of a Markov chain) to predict stock price movements;

The assumption here of course, is that the movement in a stocks price is random.

From Tossing Coins to Predicting Stock Prices

Be sure to check out this article to see how we used coin tosses to predict stock price movements by using a geometric random walk to yield surprising results.

Here we will carry on with that assumption which allows us to call upon the use of ideas from probability — namely we will explore how to predict stock market trends using the mathematical concept of Markov chains.

What is a Markov chain?

A Markov chain is a type of stochastic process. Therefore, to understand what a Markov chain is, we must first define what a stochastic process is.

A stochastic process is one where a random variable evolves over time. There are two ideas of time, the discrete and the…