This alchemy can lead to a real gold

Technical analysts have the support of academic science

Technical analysts do not get no respect. Academic economists consider them a game - a prediction market rates through the study of graphs - a survey recently on domestic slaughter a goat. Conventional economic wisdom says that the market rates already reflect all available information, so the past movement are irrelevant to the future. Even if the market rates slightly predictable, said most economists, you do not receive, examine graphics for the search of the cornerstones of technical analysis as a "rising ground", "double tops", and "head and shoulders formation. Barton G. Melkil, author of "A random walk along Wall Street," writes that "for research, study schedules to share a pedestal with alchemy."

But technical analysts - also known as a chartist - Yet in the end, dare to last. The document signed by the three authors of the Massachusetts Institute of Technology and has recently published the prestigious National Bureau of Economic Research, finds that some of the technical models indeed provide growing information, especially for shares of Nasdaq ". In language that is daring to academic scientists, the document continues to state that "while this does not necessarily imply that technical analysis can be used to get" extra "trading profits, he actually increases the possibility that technical analysis may have additional value to the investment process. "

Technical analysis can indeed be more valuable? Obviously, technical analysts overly happy partial approval. "I'm like amazed," said Ralph J. Akampora, director of technical research in the "Prudential Securities Inc.". Chartist particularly pleased that the project was led by Andrew W. Lo, director of the Laboratory of the Massachusetts development finance institution that has taught many of the financiers are now working on Wall Street. Akampora said: "It gives this area a huge share of confidence."

The document, signed by Andrew Lo, Harry Mamayskim student and professor of finance Jango Wong, quite difficult to read, if you happen to know the terminology of regression estimates and the Kolmogorov-Smirnov test. But his basic strategy is simple. First, the authors have written a computer program to automate the process of detection of the 10 most popular of the chartist models. Then with the help of the program investigated the daily schedules of hundreds of shares of companies on the New York Stock Exchange, American Stock Exchange and Nasdaq from 1962 until 1996. Of the more than 800,000 investigated the initial data, the program has identified approximately 2,500 models of "head and shoulders, approximately 2,100 triangles, and so on.

Stunning results
The next step was to see how stocks behaved in the aftermath of the formation model. If technical analysis is a fiction, the authors did not have to reveal any regularity at all - only random increase and decrease.

The results were amazing. The most bullish signal model inverse head and shoulders "gave an average of 4% of th increase in the share price on the third day after the completion of the model. The most bearish signal, increasing the base, gave an average decline of 6.2%. The authors also consider other statistical measurements such as standard deviation and slope, and found that they were also significantly different from the same performance of the randomly selected day in the market.

The reason to wait until the third day after the completion of the model to look at the behavior of the action was almost as sometimes you want a day or so to recognize that the model is formed and act in accordance with it. Plus, the authors believed that this would be more convincing to the skeptics, if action is still moving three days after the completion of the model. While the document refers only to the one-day change, Andrew Lo said that the authors have received such impressive results when they examined 5 - and 10-day results.

The intuitive approach
So, is it worth it to take into account? The authors do not offer an opinion. The problem is that there is no agreed definition of what it would mean "beyond the market" because of the compromise between risk and reward. If you earn income above average, but taking the risk is higher than the average, the doubters will argue that given the risk of your income was no better than the average for the market. For example, if the chartist trading strategy is highly correlated with movements in the whole market, then it goes to the investor to additional market risk. Rather than engage in lengthy debates about what constitutes "market dominance", a group of scientists decided to focus on what they can clearly prove. The document demonstrates that the technical model actually contains the information that is going to happen later in the market.

Of course, technical analysis in real life is not so clear as in the research study. Chartist heavily rely on intuition. They often can not agree whether there is a certain model, or even what it indicates, if indeed there is. They will often go on both sides of the street, predicting that stocks will fall in the short term, but the rise in the long term, or vice versa, is not precisely defining the concept of short-and long-term perspetivy. "If you ask three technical analysts, you get four opinions," said Mike Epstein, director of the quantification of trade for "NDB Capital Markets".

Attractive model
Despite the theatrics surrounding the technical analysis, Andrew Lo thinks that they work because they provide understanding of some key forces that determine price, like the fighting forces of fear and greed. Because the markets are composed of real people, not economic automatons, psychological concepts used by technical analysts such as "levels of resistance, the levels of support, perekuplennosti, pereprodannosti" and "momentum" can have real meaning. Lo said that the technical analysts' informally and intuitively did what academic economists do "- namely, the measured forces of supply and demand.

Ultimately, Luo hopes to use computer programs to find new models that will be the best indicators of the stock market than those that are passed from generation to generation of technical analysts. This may be two heads and three-arm, or other fanciful figures. Since Lo is aware that the "salt" is to find a suitable model for use before you do others.

Lo said that he and his collaborators have been proposals for the commercialization of their work, but they are not going to engage in technical analysis on an ongoing basis. "We prefer to remain academic scientists," he said. On the other hand, the Luo are not completely ignoring the money. He said he still wondered, could the technical analysis really "market outperform" after the risk - an issue on which his study does not attempt to answer. "If he and his colleagues found that this is possible," he said "We could never publish this paper. Now, there is a professor with a good head on their shoulders.

Forex Magazine
based on www.businessweek.com