Simulation and the Stock Market
Simulation is only as good as the realism it inspires.
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What does it mean to simulate the markets? To try to get a handle on the requirements, let's compare the market with the dynamics of hitting a tennis ball.
In tennis what you have to do is track a ball that's hit to you and decide when and how to hit it. For best results you have to analyze the motion to learn what the ball is doing and quickly move to hit it, based on your best judgment of the action.
In the market, too, you have to do pretty much the same thing. You need to follow the price action of some stock to learn what it's doing and decide when and how to act on it -- to buy or sell the stock. (The price at which the trade is made, not surprisingly, is called the strike price.)
Simulating the market, then, is similar to simulating the action at the court. You lay out the price trail, interpret the changes, analyze what's happening, and make your pretend decision. In both tennis and the market there are tactics and strategies to employ. In the market you might use some variety or other of technical analysis, for instance. And then, you wait to see the results of your action. In tennis you watch to to see where your shot does, and in the market you follow the market to see where the price goes.
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In my view of a market simulation, the market trader would be the player, and the market would be the environments of the court.
In simulation, then, everything would be real, including even the trader's orders and the market information. The only part that wouldn't be real would be the interaction of the trader with the real market world. The job would then be to find a realistic way to represent that interaction.
Keep in mind that a simulation is a representation -- a model. The model could be abstract or could be very literal. A very literal representation of the market would be an exact duplicate of market prices, say for a particular stock or even for an index, like the Dow Industrials. The purpose of the simulation would be to project prices into the future in hopes of making a profitable trade. So you would need to provide dynamics of some sort to estimate the prices. For this purpose you might use technical analysis.
The analogy would be to make paper trades; it would be the real thing but without monetary obligations. You could use any of the available models/indicators to try to project prices of the real market and act on those predictions. It would be like back-testing theories, except it would be done in real time. Any trial data for simulated exercises, as well as test data for predictions based on market models, would be provided by real-world market values -- the real stuff on the real ticker tape.
The trader would be like the medical doctor who takes the patient's temperature, makes a diagnosis, and prepares a treatment. Everything would be real but for applying the treatment to a real patient.
This kind of simulation assumes you actually make a trade at a specific price and time, that shares are available at the indicted price, and that the trade occurs as represented. For example, a trade based on a limit order below the market might assume that, on a percentage basis, say, enough shares are available at or better than the limit price to complete the trade.
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