An Analysis of Technical Trading Strategies

Total Page:16

File Type:pdf, Size:1020Kb

An Analysis of Technical Trading Strategies An Analysis of Technical Trading Strategies By Kadida Ramadhani Shagilla Mashaushi Submitted in accordance with the requirements for the degree of Doctor of Philosophy The University of Leeds Leeds University Business School September, 2006 The candidate confirms that the work submitted is his own and that appropriate credit has been given where reference has been made to the work of others. The copy has been supplied on the understanding that it is copyright material and that no quotation from the thesis may be published without proper acknowledgement 11 Acknowledgements I take this opportunity to express my respectful appreciation on the help, guidance and supervision made by my supervisors Professor David Hillier, the Centenary Professor and Ziff Chair in Financial Markets, Leeds University Business School (LUBS), Professor Kevin Keasey, the Director of the International Institute of Banking and Financial Services (IIBFS), Leeds University Business School (LUBS) and Dr. Charlie Cal. I can not find words that can appropriately represent their contribution to my achievement. A very special mention is in the name of my farther, the late Ramadhani Shagilla Mashaushi. He had all along inspired and encouraged me towards higher levels in my carreer progression and achievement. Special thanks also goes to Professor Joshua Doriye, the Principal, Institute of Finance Management (IFM) and Dr. S.R. Mohamed, the Director of Graduate School, Institute of Finance Management (IFM) for their innumerable and immeasurable contributions to my study. I would also like to mention Michelle Dickson and Natasha Mullea of LUBS Research Office for their support and encouragement. I sincerely underscore Michelle's support and caring assistance. I am indebted to my wife, Kamaria, for her patience and moral support; my mum, brothers and sisters; my sons Othman, Ishaq and Luqman and to my daughter for Malkia-Bilqis -a big thank to you your patience and understanding. Many thanks to my fellow students lain and Suntharee (Mint) for your fruitful discussions and moral support. 111 Abstract This dissertation extends the literature on the efficacy of technical analysis in the direction of the `risk premium view' as an explanation for excess trading rule returns. First, we generally rely on the theoretical alternatives to the efficient market hypothesis which encourages possibilities for markets to be inefficient. We then investigate the link between the risk involved in trading rule strategies and the resulting excess returns. The empirical analysis is based mainly on a sample of stocks drawn from the London Stock Exchange, (LSE), portfolios constructed from three US markets; the New York Stock Exchange, (NYSE), the American Stock Exchange, (ASE), and the National Association of Securities Dealers Automated Quotation market, (NASDAQ). Data from ten small emerging markets of Africa is also used in empirical analyses. Focusing on documented evidence of differences in risk levels among several markets or market segments, the empirical analyses examined whether these risk differentials can explain excess trading rule profits as compensation for bearing risk. The empirical analyses find that, to a large extent, liquidity, book-to-market ratio, and institutional arrangements can explain the excess profits from technical analysis. These empirical analysesare carried out in chaptersthree, four and six. As part of the analysis, I conduct empirical tests to assess the appropriateness of some risk estimates for trading rules. Using recently developed techniques, the evidence in chapter five is consistent with the notion that certain risk estimates may not be appropriate for adjusting trading rule returns for risk. 1V Contents Acknowledgelnents ii ................................................................................................... Abstract 111iii ................................................................... .................................................. Contents iv .................................................................................................................... List Tables of .......................................................................................................... viii Chapter 1 Introduction 1 .................................................................................... 1.1 Importance the 1 of study ............................................................................. 1.2 Objectives of the study: is return predictability consistent with the EMH? 4 ........................................................................................................ 1.3 Chapters 7 outlines ....................................................................................... Chapter 2 Literature Review 12 ........................................................................ 2.1 Introduction 12 ............................................................................................. 2.2 The Theoretical Background of Research in Predictability of Asset Returns 17 .................................................................................................... 2.2.1 Assumptions the Efficient Market Hypothesis 19 of .......................... 2.2.2 Forms Market Efficiency 20 of ........................................................... 2.2.3 Theories Supporting the EMH: The Rational Expectations Hypothesis 21 ...................................................................................... 2.2.4 Models for Testing Predictability Asset Returns 23 of ....................... 2.3 Alternative theories explaining the behaviour of prices: the theoretical Basis Technical Analysis 28 of .................................................. 2.3.1 Overreaction 29 ................................................................................... 2.3.2 Overconfidence Optimism 30 and ...................................................... 2.3.3 Herding Models 31 ............................................................................. 2.3.4 Asymmetrical Information Diffusion Process 31 ............................... 2.4 Early Empirical Works 32 ........................................................................... 2.5 Recent Empirical Works 36 ......................................................................... 2.5.1 The Foreign Exchange Markets 37 ..................................................... 2.5.2 Futures Markets 39 ............................................................................. 2.5.3 Stock Markets 40 ................................................................................ 2.5.4 Technical in Emerging Markets 43 analysis ....................................... V 2.5.5 Studies of Technical Analysis via 44 non-linear models .................... 2.6 Empirical Explanations of Sources Trading Profits 46 of rule .................... 2.6.1 Market Microstructure Deficiencies 47 .............................................. 2.6.2 Data Snooping ................................................................................ 48 2.6.3 Temporary Inefficiencies 50 ............................................................... 2.6.4 Transaction Costs 51 and other adjustments ....................................... 2.7 Adjustments for Excess Profits for Risk Premium 54 ................................. 2.7.1 Risk Adjustment Measures 54 ............................................................ 2.7.2 Risk Factor Adjustments 58 ................................................................ 2.7.3 Adjusting for Time Varying Risk Premium 59 - ................................ 2.8 Summary Conclusions 61 and ..................................................................... Chapter 3 Applying Simple Trading Rules to B-M based Portfolios........ 66 3.1 Introduction 66 ............................................................................................. 3.2 Research Objectives Significance 69 and .................................................... 3.3 Literature Review 70 .................................................................................... 3.3.1 Trading 73 rules .................................................................................. 3.3.2 Test 75 statistics .................................................................................. 3.3.3 Testable Hypotheses Test Statistics 77 and ........................................ 3.4 Data Methodology 78 and ............................................................................ 3.5 Empirical Results 79 .................................................................................... 3.5.1 Summary Statistics 79 ......................................................... ....... 3.5.2 Comparative Performance of Book-to-Market based Assets......... 80 3.5.3 Can Risk Premium Excess trading 83 explain rule returns? ............... 3.5.4 Can risk premium explain superior performance of trading rules profits: Results from the extended Fama - French (1993) 86 model .................................................................................. 3.5.5 Further tests of time - varying risk premium using the bootstrap 88 method............................................................................ 3.6 Conclusions 91 ............................................................................................. 3.7 Appendix 1 95 .............................................................................................. Chapter 4 Technical Analysis: Returns, Risk Liquidity 101 and ..................
Recommended publications
  • Testing the Random Walk Hypothesis for Helsinki Stock Exchange
    Testing the Random Walk Hypothesis for Helsinki Stock Exchange Niklas Miller School of Science Bachelor’s thesis Espoo, 16.4.2018 Supervisor and advisor Prof. Harri Ehtamo Copyright ⃝c 2018 Niklas Miller Aalto University, P.O. BOX 11000, 00076 AALTO www.aalto.fi Abstract of the bachelor’s thesis Author Niklas Miller Title Testing the Random Walk Hypothesis for Helsinki Stock Exchange Degree programme Engineering Physics and Mathematics Major Mathematics and Systems Analysis Code of major SCI3029 Supervisor and advisor Prof. Harri Ehtamo Date 16.4.2018 Number of pages 25+2 Language English Abstract This Bachelor’s thesis examines the random walk hypothesis for weekly returns of two indices, OMXHPI and OMXH25, and eight stocks in Helsinki Stock Exchange. The returns run from January 2000 to February 2018. In order to test the null hypothesis of a random walk, the study employs three variance ratio tests: the Lo– MacKinlay test with the assumption of heteroscedastic returns, the Chow–Denning test and the Whang–Kim test. The variance ratio estimates produced by the Lo–MacKinlay test are analyzed for various lag values. The results indicate that both indices and all stocks, except for UPM–Kymmene, follow a random walk at the 5 percent level of significance. Furthermore, the variance ratios are found tobe less than unity for shorter lags, which implies that stock returns may be negatively autocorrelated for short return horizons. Some stocks and both indices show a high variance ratio estimate for larger lag values, contradicting a mean reverting model of stock prices. The results demonstrate, in contrast to previous studies, that Helsinki Stock Exchange may be an efficient market and thus, that predicting future returns based on historical price information is difficult if not impossible.
    [Show full text]
  • Putting Volatility to Work
    Wh o ’ s afraid of volatility? Not anyone who wants a true edge in his or her trad i n g , th a t ’ s for sure. Get a handle on the essential concepts and learn how to improve your trading with pr actical volatility analysis and trading techniques. 2 www.activetradermag.com • April 2001 • ACTIVE TRADER TRADING Strategies BY RAVI KANT JAIN olatility is both the boon and bane of all traders — The result corresponds closely to the percentage price you can’t live with it and you can’t really trade change of the stock. without it. Most of us have an idea of what volatility is. We usually 2. Calculate the average day-to-day changes over a certain thinkV of “choppy” markets and wide price swings when the period. Add together all the changes for a given period (n) and topic of volatility arises. These basic concepts are accurate, but calculate an average for them (Rm): they also lack nuance. Volatility is simply a measure of the degree of price move- Rt ment in a stock, futures contract or any other market. What’s n necessary for traders is to be able to bridge the gap between the Rm = simple concepts mentioned above and the sometimes confus- n ing mathematics often used to define and describe volatility. 3. Find out how far prices vary from the average calculated But by understanding certain volatility measures, any trad- in Step 2. The historical volatility (HV) is the “average vari- er — options or otherwise — can learn to make practical use of ance” from the mean (the “standard deviation”), and is esti- volatility analysis and volatility-based strategies.
    [Show full text]
  • Testing the Profitability of Technical Analysis in Singapore And
    View metadata, citation and similar papers at core.ac.uk brought to you by CORE provided by ScholarBank@NUS Testing the Profitability of Technical Analysis in Singapore and Malaysian Stock Markets Department of Electrical and Computer Engineering Zoheb Jamal HT080461R In partial fulfillment of the requirements for the Degree of Master of Engineering National University of Singapore 2010 1 Abstract Technical Analysis is a graphical method of looking at the history of price of a stock to deduce the probable future trend in its return. Being primarily visual, this technique of analysis is difficult to quantify as there are numerous definitions mentioned in the literature. Choosing one over the other might lead to data- snooping bias. This thesis attempts to create a universe of technical rules, which are then tested on historical data of Straits Times Index and Kuala Lumpur Composite Index. The technical indicators tested are Filter Rules, Moving Averages, Channel Breakouts, Support and Resistance and Momentum Strategies in Price. The technical chart patterns tested are Head and Shoulders, Inverse Head and Shoulders, Broadening Tops and Bottoms, Triangle Tops and Bottoms, Rectangle Tops and Bottoms, Double Tops and Bottoms. This thesis also outlines a pattern recognition algorithm based on local polynomial regression to identify technical chart patterns that is an improvement over the kernel regression approach developed by Lo, Mamaysky and Wang [4]. 2 Acknowledgements I would like to thank my supervisor Dr Shuzhi Sam Ge whose invaluable advice and support made this research possible. His mentoring and encouragement motivated me to attempt a project in Financial Engineering, even though I did not have a background in Finance.
    [Show full text]
  • Secondary Market Trading Infrastructure of Government Securities
    A Service of Leibniz-Informationszentrum econstor Wirtschaft Leibniz Information Centre Make Your Publications Visible. zbw for Economics Balogh, Csaba; Kóczán, Gergely Working Paper Secondary market trading infrastructure of government securities MNB Occasional Papers, No. 74 Provided in Cooperation with: Magyar Nemzeti Bank, The Central Bank of Hungary, Budapest Suggested Citation: Balogh, Csaba; Kóczán, Gergely (2009) : Secondary market trading infrastructure of government securities, MNB Occasional Papers, No. 74, Magyar Nemzeti Bank, Budapest This Version is available at: http://hdl.handle.net/10419/83554 Standard-Nutzungsbedingungen: Terms of use: Die Dokumente auf EconStor dürfen zu eigenen wissenschaftlichen Documents in EconStor may be saved and copied for your Zwecken und zum Privatgebrauch gespeichert und kopiert werden. personal and scholarly purposes. Sie dürfen die Dokumente nicht für öffentliche oder kommerzielle You are not to copy documents for public or commercial Zwecke vervielfältigen, öffentlich ausstellen, öffentlich zugänglich purposes, to exhibit the documents publicly, to make them machen, vertreiben oder anderweitig nutzen. publicly available on the internet, or to distribute or otherwise use the documents in public. Sofern die Verfasser die Dokumente unter Open-Content-Lizenzen (insbesondere CC-Lizenzen) zur Verfügung gestellt haben sollten, If the documents have been made available under an Open gelten abweichend von diesen Nutzungsbedingungen die in der dort Content Licence (especially Creative Commons Licences), you genannten Lizenz gewährten Nutzungsrechte. may exercise further usage rights as specified in the indicated licence. www.econstor.eu MNB Occasional Papers 74. 2009 CSABA BALOGH–GERGELY KÓCZÁN Secondary market trading infrastructure of government securities Secondary market trading infrastructure of government securities June 2009 The views expressed here are those of the authors and do not necessarily reflect the official view of the central bank of Hungary (Magyar Nemzeti Bank).
    [Show full text]
  • Technical and Fundamental Analysis
    University of Tennessee, Knoxville TRACE: Tennessee Research and Creative Exchange Supervised Undergraduate Student Research Chancellor’s Honors Program Projects and Creative Work 12-2016 Understanding the Retail Investor: Technical and Fundamental Analysis Ben Davis [email protected] Follow this and additional works at: https://trace.tennessee.edu/utk_chanhonoproj Part of the Finance and Financial Management Commons Recommended Citation Davis, Ben, "Understanding the Retail Investor: Technical and Fundamental Analysis" (2016). Chancellor’s Honors Program Projects. https://trace.tennessee.edu/utk_chanhonoproj/2024 This Dissertation/Thesis is brought to you for free and open access by the Supervised Undergraduate Student Research and Creative Work at TRACE: Tennessee Research and Creative Exchange. It has been accepted for inclusion in Chancellor’s Honors Program Projects by an authorized administrator of TRACE: Tennessee Research and Creative Exchange. For more information, please contact [email protected]. University of Tennessee Global Leadership Scholars & Chancellors Honors Program Undergraduate Thesis Understanding the Retail Investor: Technical and Fundamental Analysis Benjamin Craig Davis Advisor: Dr. Daniel Flint April 22, 2016 1 Understanding the Retail Investor: Fundamental and Technical Analysis Abstract: If there is one thing that people take more seriously than their health, it is money. Behavior and emotion influence how retail investors make decisions on the methodology of investing/trading their money. The purpose of this study is to better understand what influences retail investors to choose the method by which they invest in capital markets. By better understanding what influences retail investors to choose a certain investment methodology, eventually researchers can provide tailored and normative advice to investors as well as the financial planning industry in effectively and efficiently working with clients.
    [Show full text]
  • Dynamic Portfolio Optimization with Transaction Cost Abstract
    Financial Engineering and Portfolio Management / Vol.6, Issue.24, Autumn 2015 Dynamic Portfolio Optimization with Transaction Cost 1 Zahra Pourahmadi 2 Amir Abbas Najafi Receipt: 2015, 2 , 3 Acceptance: 2015, 4 , 29 Abstract The optimal selection of portfolio is one the most important decisions in managing investment funds. Several approaches have been proposed to determine what is the best trading strategy. Most of these common approaches are based on single period optimization, however, as investment is a long-term concept, such short term profit maximization cannot fully exploit the opportunities that an investor might get if he/she looks into a longer term. To this end, in this paper, we intend to extend the single-period optimization into a multi-period optimization and also, to make it more realistic, we will incorporate transaction cost in our model. To investigate the validity of the proposed scheme, we have analyzed several examples using which we have presented the steps of our approach and also statistically compared the performance of the single and multi- period optimization using Mann-Whitney U test. Based on the results of this paper, we can conclude that multi-period and single-period optimization might have similar performance if we look at short time span of the system. However the superiority of multi-period optimization becomes more evident as we extend the time span of the system which gives multi-period scheme more freedom to suggest better portfolio selections. Key Words: Portfolio, Dynamic Optimization, Transaction Cost, Investment Strategy 1 Financial Engineering Master Student, K.N. Toosi University of Technology 2 Assistant Professor, Faculty of Financial Engineering, K.
    [Show full text]
  • Relative Strength Index for Developing Effective Trading Strategies in Constructing Optimal Portfolio
    International Journal of Applied Engineering Research ISSN 0973-4562 Volume 12, Number 19 (2017) pp. 8926-8936 © Research India Publications. http://www.ripublication.com Relative Strength Index for Developing Effective Trading Strategies in Constructing Optimal Portfolio Dr. Bhargavi. R Associate Professor, School of Computer Science and Software Engineering, VIT University, Chennai, Vandaloor Kelambakkam Road, Chennai, Tamilnadu, India. Orcid Id: 0000-0001-8319-6851 Dr. Srinivas Gumparthi Professor, SSN School of Management, Old Mahabalipuram Road, Kalavakkam, Chennai, Tamilnadu, India. Orcid Id: 0000-0003-0428-2765 Anith.R Student, SSN School of Management, Old Mahabalipuram Road, Kalavakkam, Chennai, Tamilnadu, India. Abstract Keywords: RSI, Trading, Strategies innovation policy, innovative capacity, innovation strategy, competitive Today’s investors’ dilemma is choosing the right stock for advantage, road transport enterprise, benchmarking. investment at right time. There are many technical analysis tools which help choose investors pick the right stock, of which RSI is one of the tools in understand whether stocks are INTRODUCTION overpriced or under priced. Despite its popularity and powerfulness, RSI has been very rarely used by Indian Relative Strength Index investors. One of the important reasons for it is lack of Investment in stock market is common scenario for making knowledge regarding how to use it. So, it is essential to show, capital gains. One of the major concerns of today’s investors how RSI can be used effectively to select shares and hence is regarding choosing the right securities for investment, construct portfolio. Also, it is essential to check the because selection of inappropriate securities may lead to effectiveness and validity of RSI in the context of Indian stock losses being suffered by the investor.
    [Show full text]
  • Performance of Stop-Loss Rules Vs. Buy-And-Hold
    LUND UNIVERSITY SCHOOL OF ECONOMICS AND MANAGEMENT NEKM01, MASTER ESSAY IN FINANCE SPRING 2009 PERFORMANCE OF STOP -LOSS RULES VS . BUY -AND -HOLD STRATEGY AUTHORS : SUPERVISOR : Bergsveinn Snorrason Göran Anderson Garib Yusupov ii ABSTRACT The purpose of this study is to investigate the performance of traditional stop-loss rules and trailing stop-loss rules compared to the classic buy-and-hold strategy. The evaluation criteria of whether stop-loss strategies can deliver better results are defined as return and volatility. The study is conducted on daily equity returns data for stocks listed on the OMX Stockholm 30 Index during the time period between January 1998 and April 2009 divided into holding periods of three months. We use the Efficient Market Hypothesis as the rule of thumb and choose an arbitrary starting date for the holding periods. We test the performance of two types of stop-loss strategies, trailing stop-loss and traditional stop-loss. Despite the methodological differences our results are in line with previous research done by Kaminski and Lo (2007), where they find that stop-loss strategies have a positive marginal impact on both expected returns and risk-adjusted expected returns. In our research we find strong indications of the stop-loss strategies being able to outperform the buy-and-hold portfolio strategy in both criteria. The empirical results indicate that the stop-loss strategies can do better than the buy-and-hold even clearer cut when compared in terms of the risk-adjusted returns. Keywords: Stop-loss, Trailing Stop-loss, Buy-and-Hold, Behavioral Finance, Strategy iii TABLE OF CONTENTS ABSTRACT ...........................................................................................................................
    [Show full text]
  • The Efficient Market Hypothesis
    THE EFFICIENT MARKET HYPOTHESIS A Thesis Presented to the Faculty of California State Polytechnic University, Pomona In Partial Fulfillment Of the Requirements for the Degree Master of Science In Economics By Nora Alhamdan 2014 SIGNATURE PAGE THESIS: The Efficient Market Hypothesis AUTHOR: Nora Alhamdan DATE SUBMITTED: Spring 2014 Economics Department Dr. Carsten Lange _________________________________________ Thesis Committee Chair Economics Dr. Bruce Brown _________________________________________ Economics Dr. Craig Kerr _________________________________________ Economics ii ABSTRACT The paper attempts testing the random walk hypothesis, which the strong form of the Efficient Market Hypothesis. The theory suggests that stocks prices at any time “fully reflect” all available information (Fama, 1970). So, the price of a stock is a random walk (Enders, 2012). iii TABLE OF CONTENTS Signature Page .............................................................................................................. ii Abstract ......................................................................................................................... iii List of Tables ................................................................................................................ vi List of Figures ............................................................................................................... vii Introduction .................................................................................................................. 1 History .........................................................................................................................
    [Show full text]
  • Technical Analysis and Random Walks
    ~ Technical Analysis and Random Walks There are two kinds of security analysis . Fundamental analysis seeks to forecast each stock 's return by studying the prospects for the company 's business . Technical analysis attempts to forecast the return by searching for patterns in past stock prices . Although a glance at any chart of past stock prices will often suggest such patterns , these could be no more than an optical illusion . Consider , for example , the following series of graphs . Figure 1.1 depicts the level of the Dow Jones Average during 1981. It appears to be characterized by typical short -term patterns . Yet when it is reconstructed in figure 1.2 as a chart of the weekly changes in the index , the symmetry disappears and is replaced by an apparently mean - ingless jumble . The next two diagrams reverse the process . Figure 1.3 is a hypothetical series of random price changes . There neither is nor appears to be any pattern in figure 1.3. Yet when it is reconstructed in figure 1.4 as a chart of the levels of the counterfeit prices , the resulting graph acquires many of the characteristics of actual charts of the market , even to the " head and shoulders " pattern that is beloved by technical analysts .] The moral of the story is this : Do not assume without questioning because there are regularities in price levels that The Reaction of Common Stock Prices to New Information 4 Figure 1.1 The weekly levels of the Dow JonesAverage in 1981 appear to be characterized by regular patterns. Figure 1.2 The changesin the Dow Jonesdo not appear to follow any pattern.
    [Show full text]
  • Openair@RGU the Open Access Institutional Repository at Robert Gordon University
    OpenAIR@RGU The Open Access Institutional Repository at Robert Gordon University http://openair.rgu.ac.uk Citation Details Citation for the version of the work held in ‘OpenAIR@RGU’: SANUSI, M. S., 2015. Market efficiency, volatility behaviour and asset pricing analysis of the oil & gas companies quoted on the London Stock Exchange. Available from OpenAIR@RGU. [online]. Available from: http://openair.rgu.ac.uk Copyright Items in ‘OpenAIR@RGU’, Robert Gordon University Open Access Institutional Repository, are protected by copyright and intellectual property law. If you believe that any material held in ‘OpenAIR@RGU’ infringes copyright, please contact [email protected] with details. The item will be removed from the repository while the claim is investigated. MARKET EFFICIENCY, VOLATILITY BEHAVIOUR AND ASSET PRICING ANALYSIS OF THE OIL & GAS COMPANIES QUOTED ON THE LONDON STOCK EXCHANGE Muhammad Surajo Sanusi A thesis submitted in partial fulfilment of the requirements of the Robert Gordon University for the degree of Doctor of Philosophy June 2015 i Abstract This research assessed market efficiency, volatility behaviour, asset pricing, and oil price risk exposure of the oil and gas companies quoted on the London Stock Exchange with the aim of providing fresh evidence on the pricing dynamics in this sector. In market efficiency analysis, efficient market hypothesis (EMH) and random walk hypothesis were tested using a mix of statistical tools such as Autocorrelation Function, Ljung-Box Q-Statistics, Runs Test, Variance Ratio Test, and BDS test for independence. To confirm the results from these parametric and non-parametric tools, technical trading and filter rules, and moving average based rules were also employed to assess the possibility of making abnormal profit from the stocks under study.
    [Show full text]
  • Lecture 20: Technical Analysis Steven Skiena
    Lecture 20: Technical Analysis Steven Skiena Department of Computer Science State University of New York Stony Brook, NY 11794–4400 http://www.cs.sunysb.edu/∼skiena The Efficient Market Hypothesis The Efficient Market Hypothesis states that the price of a financial asset reflects all available public information available, and responds only to unexpected news. If so, prices are optimal estimates of investment value at all times. If so, it is impossible for investors to predict whether the price will move up or down. There are a variety of slightly different formulations of the Efficient Market Hypothesis (EMH). For example, suppose that prices are predictable but the function is too hard to compute efficiently. Implications of the Efficient Market Hypothesis EMH implies it is pointless to try to identify the best stock, but instead focus our efforts in constructing the highest return portfolio for our desired level of risk. EMH implies that technical analysis is meaningless, because past price movements are all public information. EMH’s distinction between public and non-public informa- tion explains why insider trading should be both profitable and illegal. Like any simple model of a complex phenomena, the EMH does not completely explain the behavior of stock prices. However, that it remains debated (although not completely believed) means it is worth our respect. Technical Analysis The term “technical analysis” covers a class of investment strategies analyzing patterns of past behavior for future predictions. Technical analysis of stock prices is based on the following assumptions (Edwards and Magee): • Market value is determined purely by supply and demand • Stock prices tend to move in trends that persist for long periods of time.
    [Show full text]