Is technical analysis a complete crock?

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fredflinstone
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Is technical analysis a complete crock?

Post by fredflinstone » Fri Dec 10, 2010 7:24 am

I am aware of two techniques that investors use to try to pick market-beating stocks: (1) fundamental analysis and (2) technical analysis.

Fundamental analysis requires looking at a company's expected earnings, return on equity, and other financial metrics in order to come up with a "fair" value of the stock price. I do not believe that most retail investors can successfully use this approach, because of the time and skill required, but I accept that the approach is rational and can be used by a small number of brilliant investors with great success (see, e.g., Warren Buffett, Benjamin Graham).

On the other hand, technical analysis merely requires the investor to look at a company's stock chart. Certain patterns, like the cup and handle formation, are deemed bullish while others are considered bearish. The company's products, prospects, and financial health need not be taken into account.

Are there any academic studies that purport to show benefits of technical analysis? Have any technical analysts been able to beat the market over a prolonged period of time? To be blunt, the whole exercise seems to me like snake oil.

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Post by Call_Me_Op » Fri Dec 10, 2010 7:33 am

In my opinion, yes, "technical analysis" is a crock. Markets are driven by almost an infinite number of variables that are driving the actions of unpredictable systems called human beings. No person or method can accurately predict what a market will do in the future. Trends can be noticed after the fact but not predicted beforehand with any degree of reliability.
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Post by FredPeterson » Fri Dec 10, 2010 8:05 am

Crock or not - when daily and short term market movements are almost pretty much defined by TA you can't ignore that it has meaning.

"Daily movement is meaningless"

Uh, so what? You aren't in the business of making money off the market every day as your means of income. Some people are.


FWIW I don't even have the first clue how do any kind of TA beyond simple moving averages. Hammers, Head and shoulders...I know the terms but no clue how or why they form or what they mean.

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Post by Wagnerjb » Fri Dec 10, 2010 8:29 am

Call_Me_Op wrote:In my opinion, yes, "technical analysis" is a crock. Markets are driven by almost an infinite number of variables that are driving the actions of unpredictable systems called human beings. No person or method can accurately predict what a market will do in the future. Trends can be noticed after the fact but not predicted beforehand with any degree of reliability.
I agree with Call Me Op's comments. TA gives people the illusion of control in their investment decisions, and that is comforting to people who cannot accept the fact that markets cannot be predicted. Illusion of control is one of the psychological biases that affect investors.

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Post by MDOmnis » Fri Dec 10, 2010 8:35 am

Yes. :)
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Post by Ed 2 » Fri Dec 10, 2010 8:37 am

Yes.
Historical facts and knowing of human psychology are the only what to rely on.
Last edited by Ed 2 on Fri Dec 10, 2010 9:39 pm, edited 1 time in total.
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Post by DartThrower » Fri Dec 10, 2010 9:46 am

If technical analysis worked then wouldn't the fund managers who used it get returns in the upper tail of the distribution of returns for all funds? That would tend to make the tails of the distribution fatter than would be expected by pure chance alone. Finding ANY fund that generates positive true alpha is like finding a needle in a haystack. Among these rare funds one would have to look for an even smaller subset of those who use technical analysis. Therefore, how can anyone who pushes technical analysis possibly claim to "know" it works?

Also, wouldn't the technical analysis types tend to outperform persistently? There is scant evidence that any of this persistence happens in the real world. An even smaller subset of these anomalous funds would be technical analysis based. There are simply no empirical grounds for making the claim that technical analysis works.
A Boglehead can stay the course longer than the market can stay irrational.

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Post by mithrandir » Fri Dec 10, 2010 10:26 am

It's probably not a crock to those traders who may hold a position in something for just a few hours.

But for the rest of us technical analysis is more akin to astrology.

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Post by Opponent Process » Fri Dec 10, 2010 10:33 am

both TA and FA are crocks-in both stock and bond markets.
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Post by jon-nyc » Fri Dec 10, 2010 10:40 am

While I think virtually all technical analysis is a crock, I don't think it is conceptually without any merit. Humans do have identifiable behavioral tendencies so it seems entirely possible that there are, as a result, discernable patterns in the behavior of crowds. But they could only be statistical likelihoods, nowhere near certainties.
Last edited by jon-nyc on Fri Dec 10, 2010 10:50 am, edited 1 time in total.

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Post by FredPeterson » Fri Dec 10, 2010 10:49 am

jon-nyc wrote:While I think virtually all technical analysis is a crock, I don't think it is conceptually without any merit. Humans do have identifiable behavioral tendencies so it seems entirely possible that there are, as a result, discernable patterns in the behavior of crowds. But they can only be statistical likelihoods, nowhere near certainties.
This is what I meant by what I said above. Nicely put.

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Post by R-Man » Fri Dec 10, 2010 10:59 am

Humans have a deep desire to have order and harmony thus they "see" patterns where none exist. TA if it has any meaning is only in the short term - hours for momentum trends. Day traders may find some merit but investors should shun the approach.
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Post by Adrian Nenu » Fri Dec 10, 2010 11:05 am


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Post by Stonebr » Fri Dec 10, 2010 11:10 am

Seems like a crock at least in recent decades.

But I can't help recalling that the ticker reading methods used by Jesse Livermore worked in the early part of the 20th century -- described in Reminiscences of a Stock Operator and his own book How to Trade in Stocks (The Livermore Key). He seemed to have cracked the code and could do TA in his head. Markets were less efficient, unregulated, and moved by manipulators, but he had a gift for mathematics and was able to time the bull and bear movements pushed by the trusts.

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Post by SamB » Fri Dec 10, 2010 11:35 am

It is not a crock. You can make plenty of money selling it to other people.

Sam

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yes

Post by nick22 » Fri Dec 10, 2010 11:52 am

The answer: yes
Nick22

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Post by ddb » Fri Dec 10, 2010 12:04 pm

SamB wrote:It is not a crock. You can make plenty of money selling it to other people.
Good point! :)
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Post by GammaPoint » Fri Dec 10, 2010 12:04 pm

I think I remember Malkiel saying that it's possible to theoretically make a bit more money using technical analysis, but once you factor in taxes and trading costs any benefit is essentially lost in the real world.

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Post by strcmp » Fri Dec 10, 2010 1:12 pm

GammaPoint wrote:I think I remember Malkiel saying that it's possible to theoretically make a bit more money using technical analysis, but once you factor in taxes and trading costs any benefit is essentially lost in the real world.
His analysis was done in the past when commissions were rather high for a retail investor. In today's environment, commissions are pretty cheap at <$1 to $1 per trade for active traders versus what it was in the 70s-80s ($50 a trade, etc). Also, taxes do not affect trading in certain retirement accounts so that can't be a valid argument.

He's made several updates to his books over the years, but I don't know if he's updated his analysis based on the cheapest commissions out there.

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Post by strcmp » Fri Dec 10, 2010 1:43 pm

I'll take the unpopular stance and say that it does work to a certain degree. :D

To me there are 2 types of technical analysis.. The "astrology" kind based on visual patterns you see in charts. I'm not too fond of hokey visual patterns like cup and a handle, dojis, morning stars, etc.

Then there's the more numerical analysis oriented version of technical analysis. Other things like moving avgs, support/resistance, indicators, etc. I do believe work. Nonetheless, it is all a probability game, nothing is for sure. Money/bankroll management + making decisions based on probability is the only way to succeed. It is very similar to poker.

I do think tech analysis works best hand in hand with fund. analysis. For what it's worth, you have no idea when to enter/exit a stock/index if you only used fund. analysis. It beats having no method at all.

Are there people making a living with tech. analysis out there? Sure, although I think it's mostly with the numerical analysis version of technical analysis. Not the astrology version.

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Post by jon-nyc » Fri Dec 10, 2010 2:06 pm

Many statarb strategies are nothing more than TA on steroids.

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Post by Triple digit golfer » Fri Dec 10, 2010 2:13 pm

My finance professor in college seemed to think that technical analysis and basically any other type of analysis to try to pick "winners" was a crock. Without knowing it, he is a true Boglehead. He encouraged us to concentrate on savings rate rather than trying to pick investments. He always said to "take the market returns at as low a cost as possible while mixing in a healthy dose of bonds for diversification."

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Post by dbonnett » Fri Dec 10, 2010 3:20 pm

Most newsletters rely on market timing technical analysis. The Hulbert Report measures that very few beat he market each year, and almost none consistently. The best is the upgrading tactics of FUNDX and UNBOX which when measured against appropriate benchmarks looks fairly dismal.

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Post by cheapskate » Fri Dec 10, 2010 3:29 pm

I was (still am) convinced that TA is utter BS.

But, TA is nothing more than trying to divine and play the momentum in a given security. There's a ton of recent academic research about momentum, funds floated by prominent academics that tout momentum strategies (eg. Clifford Asness).

If one believes (I don't) that momentum has any value (no pun intended), then TA might not be so utterly useless.

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NO PREDICTIVE POWER

Post by ntsantak » Fri Dec 10, 2010 3:41 pm

Technical trends fall under weak form of Efficient Market Hypothesis. Statistically they DO NOT GENERATE abnormal returns. In other words it has not predictive power.

Overall Conclusions About Each Form of the EMH

* Weak-Form EMH
The weak-form EMH is supported by the tests and analysis done. Essentially, the weak-form holds that abnormal returns are not achievable with the use of past-historical data as a means to generate returns.
* Semi-strong Form EMH
The semi-strong form EMH, at times, is both supported and not supported by the tests and analysis done. There has been some evidence that securities are not reflective of the semi-strong form EMH.
* Strong Form EMH
It appears from the tests and analysis performed, that the strong-form EMH does hold. While insiders and specialists do have access to private information, SEC regulations forbid this information to be used.

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Post by honkeoki » Fri Dec 10, 2010 4:39 pm

R-Man wrote:Humans have a deep desire to have order and harmony thus they "see" patterns where none exist.
There's a great deal of information this. Jason Zweig addresses this topic in Your Mind And Your Money. IIRC it's also covered in this Nova episode about personal finance and psychology.

The technical name for this phenomenon is pareidolia -- one of my favorite concepts and a great word to know.

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Post by SP-diceman » Fri Dec 10, 2010 4:56 pm

The question is too ambiguous.

I wouldnt consider a boglehead the best source for trading opinion.
Obviously, there are people who make a living trading.

Look up "The Turtles". (not the music group :))





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Re: Is technical analysis a complete crock?

Post by YDNAL » Fri Dec 10, 2010 5:06 pm

fredflinstone wrote:Are there any academic studies that purport to show benefits of technical analysis? Have any technical analysts been able to beat the market over a prolonged period of time? To be blunt, the whole exercise seems to me like snake oil.
  • The Disciplined Trader, Mark Douglas, New York Institute of Finance, 1990, ISBN 0-13-215757-8
  • Getting Started in Technical Analysis, Jack D. Schwager, Wiley, 1999, ISBN 0-471-29542-6
  • New Concepts in Technical Trading Systems, J. Welles Wilder, Trend Research, 1978, ISBN 0-89459-027-8
  • Reminiscences of a Stock Operator, Edwin Lefèvre, John Wiley & Sons Inc, 1994, ISBN 0-471-05970-6
  • Street Smarts, Connors/Raschke, 1995, ISBN 0-9650461-0-9
  • Technical Analysis: The Complete Resource for Financial Market Technicians, Kirkpatrick/Dahlquist, 2007, ISBN 0-13-153113-1
  • Technical Analysis Explained: The Successful Investor's Guide to Spotting Investment Trends and Turning Points, Martin J. Pring, McGraw Hill, 2002, ISBN 0-07-138193-7
  • Technical Analysis of Stock Trends, 9th Edition (Hardcover), Robert D. Edwards, John Magee, W.H.C. Bassetti (Editor), American Management Association, 2007, ISBN 0-8493-3772-0
  • Technical Analysis of the Financial Markets, John J. Murphy, New York Institute of Finance, 1999, ISBN 0-7352-0066-1
  • The Profit Magic of Stock Transaction Timing, J.M. Hurst, Prentice-Hall, 1972, ISBN 0-13-726018-0
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Post by wshang » Fri Dec 10, 2010 5:14 pm

Of course you posting a question like this is likely to get a barrage of these kinds of answers. Why not go to the Vatican and ask whether they believe in the transubstantiation of vine?

I doubt many of posters here have taken the time to look at TA in any meaningful way. The fact that many investors study TA, will mean a self-fulfilling prophecy effect. There are some effects IMHO are very real, such as support/resistance levels and Chalkin Money Flow.

Even if you don't believe in transubstantiation, wouldn't be behoove you to study it a little if not to understand your Catholic friend?

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Jessie Livermore -- The rest of the story

Post by Taylor Larimore » Fri Dec 10, 2010 5:23 pm

Hi Stonebr:
I can't help recalling that the ticker reading methods used by Jesse Livermore worked in the early part of the 20th century -- described in Reminiscences of a Stock Operator and his own book How to Trade in Stocks (The Livermore Key). He seemed to have cracked the code and could do TA (Technical Analysis) in his head. Markets were less efficient, unregulated, and moved by manipulators, but he had a gift for mathematics and was able to time the bull and bear movements pushed by the trusts.
From Wikipedia:
On March 7, 1934, the bankrupt Livermore was automatically suspended as a member of the Chicago Board of Trade. It was never disclosed to anyone what happened to the great fortune he had made in the crash of 1929, but he had lost it all.[11]
In my opinion, Technical Analysis is bunk.
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Post by SP-diceman » Fri Dec 10, 2010 8:05 pm

As Klaatu said in "The Day The Earth Stood Still":

Lets just say it works well enough to get me from one planet to another.






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Re: Jessie Livermore -- The rest of the story

Post by norookie » Fri Dec 10, 2010 9:06 pm

Taylor Larimore wrote:Hi Stonebr:
I can't help recalling that the ticker reading methods used by Jesse Livermore worked in the early part of the 20th century -- described in Reminiscences of a Stock Operator and his own book How to Trade in Stocks (The Livermore Key). He seemed to have cracked the code and could do TA (Technical Analysis) in his head. Markets were less efficient, unregulated, and moved by manipulators, but he had a gift for mathematics and was able to time the bull and bear movements pushed by the trusts.
From Wikipedia:
On March 7, 1934, the bankrupt Livermore was automatically suspended as a member of the Chicago Board of Trade. It was never disclosed to anyone what happened to the great fortune he had made in the crash of 1929, but he had lost it all.[11]
In my opinion, Technical Analysis is bunk.
ME TOO! Although TLs insight triumphs mine in multiples of trillions. SP500 passed 1228 today, did you see panic buying because this supposedly indicates a bull mkt. ahead. Its pure fine grade sales "puffy talk" bunk! Thats legal! C''maaaaan :wink:
Last edited by norookie on Fri Dec 10, 2010 9:07 pm, edited 1 time in total.
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Post by traineeinvestor » Fri Dec 10, 2010 9:07 pm

Stonebr wrote:Seems like a crock at least in recent decades.

But I can't help recalling that the ticker reading methods used by Jesse Livermore worked in the early part of the 20th century -- described in Reminiscences of a Stock Operator and his own book How to Trade in Stocks (The Livermore Key). He seemed to have cracked the code and could do TA in his head. Markets were less efficient, unregulated, and moved by manipulators, but he had a gift for mathematics and was able to time the bull and bear movements pushed by the trusts.
He also managed to lose all or most the substantial fortunes he made at least twice. In the end he committed suicide, whether for financial or other reasons remains unknown, although the Wikipedia entry may provide a clue:
On March 28, 1933, Livermore married 38 year old Harriet Metz Noble in Geneva, Illinois; there was no honeymoon. It was Harriet's fifth marriage; all four of her previous husbands had committed suicide
I'm a non-believer in TA. To quote Max Gunther (who was definitely not a Boglehead): "Chaos is not dangerous until it begins to look orderly"

[/quote]

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Post by jmourik » Fri Dec 10, 2010 9:44 pm

http://en.wikipedia.org/wiki/Technical_analysis
"In a paper published in the Journal of Finance, Dr. Andrew W. Lo, director MIT Laboratory for Financial Engineering, working with Harry Mamaysky and Jiang Wang found that "Technical analysis, also known as "charting," has been a part of financial practice for many decades, but this discipline has not received the same level of academic scrutiny and acceptance as more traditional approaches such as fundamental analysis. One of the main obstacles is the highly subjective nature of technical analysis—the presence of geometric shapes in historical price charts is often in the eyes of the beholder. In this paper, we propose a systematic and automatic approach to technical pattern recognition using nonparametric kernel regression, and apply this method to a large number of U.S. stocks from 1962 to 1996 to evaluate the effectiveness of technical analysis. By comparing the unconditional empirical distribution of daily stock returns to the conditional distribution—conditioned on specific technical indicators such as head-and-shoulders or double-bottoms—we find that over the 31-year sample period, several technical indicators do provide incremental information and may have some practical value."[32] In that same paper Dr. Lo wrote that "several academic studies suggest that ... technical analysis may well be an effective means for extracting useful information from market prices."[33]"

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Post by Noobvestor » Fri Dec 10, 2010 10:41 pm

On March 28, 1933, Livermore married 38 year old Harriet Metz Noble in Geneva, Illinois; there was no honeymoon. It was Harriet's fifth marriage; all four of her previous husbands had committed suicide
... mysteriously, all via a self-inflicted gun wound from a bullet that appeared to have been fired from 20 feet away. J/k ... cept, wow, really? 5?
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Post by james22 » Sat Dec 11, 2010 7:45 am

Ed 2 wrote:Yes.
Historical facts and knowing of human psychology are the only what to rely on.
No.

Markets trend (because of human psychology) in ways history patterns.

The approach is no less rational than fundamental analysis though even less likely to be successfully used by most retail investors: trend following is psychologically difficult because it requires buying high (relative to mental anchor), selling low (after trend reversal from high), and taking many small losses relative to few big gains.
This whole episode is likely to end so badly that future children will learn about it in school and shake their heads in wonder at the rank stupidity of it all... Hussman

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Post by tetractys » Sat Dec 11, 2010 10:19 pm

One interesting thing about technical analysis is that, whenever an interpretation of a pattern is found to be wrong, the correct interpretation is always possible to find in hindsight. And so devoted chartists will forever be on a quest to improve their interpretative skills, and their art will become ever more vast in subtle complexities. -- Tet
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Post by Ed 2 » Sat Dec 11, 2010 10:51 pm

tetractys wrote:One interesting thing about technical analysis is that, whenever an interpretation of a pattern is found to be wrong, the correct interpretation is always possible to find in hindsight. And so devoted chartists will forever be on a quest to improve their interpretative skills, and their art will become ever more vast in subtle complexities. -- Tet
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Post by james22 » Sat Dec 11, 2010 11:01 pm

One interesting thing about fundamental analysis is that, whenever an interpretation of the economy is found to be wrong, the correct interpretation is always possible to find in hindsight.
This whole episode is likely to end so badly that future children will learn about it in school and shake their heads in wonder at the rank stupidity of it all... Hussman

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Post by Bobalude » Sun Dec 12, 2010 2:40 am

If enough people believe in something and act upon it, it becomes valid until people stop believing in and acting upon it.


For instance if enough market volume believes a rule that touching the bottom level of a bollinger band is a buy signal and rushes in to buy... it becomes a self-fulling prophecy when prices bounce off the lower band. And it reinforces the idea as it gets repeated.

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Post by james22 » Sun Dec 12, 2010 4:46 am

For the record, I believe:

1. Reactive fundamental and technical analysis (trend following) has value.
2. Predictive fundamental analysis has weak value.
3. Predictive technical analysis has no value.
This whole episode is likely to end so badly that future children will learn about it in school and shake their heads in wonder at the rank stupidity of it all... Hussman

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Post by pkcrafter » Sun Dec 12, 2010 9:44 am

TA may be similar to the momentum effect. Momentum is the 4th factor that explains returns, but Larry S. says it is an anomaly and has more to do with investor behavior than anything else. If enough people believe something it may simply occur because of their response to the stimulus.



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Post by ruralavalon » Sun Dec 12, 2010 9:54 am

Is technical analysis a complete crock?

Yes.
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Post by dkturner » Sun Dec 12, 2010 10:17 am

Call_Me_Op wrote:In my opinion, yes, "technical analysis" is a crock. Markets are driven by almost an infinite number of variables that are driving the actions of unpredictable systems called human beings. No person or method can accurately predict what a market will do in the future. Trends can be noticed after the fact but not predicted beforehand with any degree of reliability.
I'm not sure it's quite that simple.

Technical analysis (TA) is primarily utilized by "traders" to make short-term profits. Only wackos actually believe that TA is some kind of useful long-term strategy. Since there are a substantial number of believers in TA (many of them quite wealthy - how do you think the boys at Goldman Sachs make much of their money) it stands to reason that when they perceive a technical "sign" they will behave in a predictable way - and cause a particular security, or asset class, or whatever, to move accordingly. The fact that a substantial number of investors BELIEVE that if X happens, Y will do such and such is often sufficient to cause Y to perform as predicted when X manifests itself - at least in the short-term.

If TA were "a crock", as you seem to believe, the boys at Goldman Sachs wouldn't be using it (often quite successfully) on a grand scale. Even our friends, Fama and French, acknowledge the existance of "momentum" as an indicator that can be successfully used for adding to one's return, the fact that they can't explain it nothwistanding.

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Post by sommerfeld » Sun Dec 12, 2010 10:46 am

R-Man wrote:Humans have a deep desire to have order and harmony thus they "see" patterns where none exist.
I think there are long-standing evolutionary pressures which bias humans -- and any other species with eyes and ears -- towards false positives (seeing and hearing a predator that isn't there) and against false negatives (not seeing or hearing the predator that eats you).

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Post by james22 » Sun Dec 12, 2010 6:11 pm

Bogleheads have a deep desire to have order and harmony thus they "see" no value where it might elsewhere exist.
This whole episode is likely to end so badly that future children will learn about it in school and shake their heads in wonder at the rank stupidity of it all... Hussman

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Post by exeunt » Sun Dec 12, 2010 7:18 pm

It's mostly crock, but a lot of studies have shown that momentum works. Here you have a purely price-based signal creating excess returns in almost all markets studied, whether they be stock, bonds or currencies. It's standard in academic papers to control for momentum when measuring the performance of any particular investment strategy.

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Post by SP-diceman » Mon Dec 13, 2010 12:01 am

Why is it always a "croc" ?
Cant it be an alligator?





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Post by DP » Tue Dec 14, 2010 7:08 pm

Hi,
Lots of opinions but few facts. The simple answer is some fundamental or technical strategies work and many don't. Of those that do, few strategies are consistently profitable over decades and there are plenty of strategies that never worked.

This site takes a pretty objective view in it's tests, and has debunked a number of strategies, but found that combining value and momentum is likely to be effective:

http://www.cxoadvisory.com/what-investi ... work-best/

Don

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Post by SP-diceman » Wed Dec 15, 2010 5:43 am

DP wrote: Lots of opinions but few facts.
Benchmarks change when you don't like something.

Using the Boglehead standard, the automobile would be a lie,
if we could find one dishonest used car salesman.


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