The New Rocket Science

Neural networks. Genetic algorithms. Chaos theory. Fractals. Expert systems. Mention those terms to Wall Streeters, and most will likely think you're talking about some high-tech initial public offerings. In fact, they are new computer tools that could have a far-ranging impact on the Street and finance generally.

The computer is no stranger to finance, of course. For at least a decade, so-called rocket scientists and quants have greatly influenced trading, corporate finance, investment management, and securities analysis. Yet for the most part, their work has consisted of raw number-crunching that vastly sped up existing methods of analysis.

What might be termed the New Rocket Science is a quantum leap forward. Although its jargon may seem abstract, the New Rocket Science is much more grounded in the real world--that is, in the way people generally think and the way the natural world looks and functions. Expert systems, neural networks, and genetic algorithms seek to embody human expertise and to mimic human thought processes. Chaos theory and fractals help explain configurations such as clouds, coastlines, and securities markets, all phenomena that rocket scientists have dubbed "nonlinear."

The New Rocket Science got its start with the artificial-intelligence craze of the early 1980s. Yet grandiose promises of a problem-solving "expert in a box" proved illusory. Now, AI is coming back in new guises. To operate effectively, AI proponents have learned, programs require complex and subtle interactions between machine and humans, with each teaching and learning from the other.

Expert systems using AI are now quietly but swiftly proliferating throughout the financial world, and they are being increasingly used for such activities as forecasting, credit evaluation, and market analysis. Expert systems, say users, permit faster, more systematic, more informed decision-making. Chaos theory is more on the fringes, more talked about than used. But proponents of the theory insist that through its radically different view of the markets it could eventually overhaul the conventional wisdom of investment management.

A generous dollop of skepticism is advisable, of course. The boundary between rocket science and science fiction is not always clear. What is clear, however, is that the days of the Hewlett-Packard calculator and the simple spreadsheet are gone forever.

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