eli5: Random Walks Used For Prediction

Question

I am learning python at the moment and have just been introduced to the concept of Random Walks.

The lesson taught me how to code one and explained that it is used for data modeling in a number of different disciplines, but it didn’t explain how/why.

Can someone help me understand how a Random walk can be used in practice?

Thanks in advance.

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Answer 1

So I dont think random walks are used to predict anything. By definition they are random, so if properly coded, they should never predict anything.

However, that doesnt mean that modelling them is pointless. For instance, in my field, they are a useful way to think about stock prices. Basically, over the long term we think stock prices should be a signal of company value, but on a time scale of minutes or hours, we can think of them as a random walk. At any given time, we dont necessarily know whether they will go up or down.

Then with that theory, we can model a simulated stock, and see how changing certain parameters changes its movement, ultimately getting an idea of what might happen.