Price trends and patterns in technical analysis

A theoretical and empirical examination

Geoffrey C. Friesen, Paul A. Weller, Lee M. Dunham

Research output: Contribution to journalArticle

35 Citations (Scopus)

Abstract

While many technical trading rules are based upon patterns in asset prices, we lack convincing explanations of how and why these patterns arise, and why trading rules based on technical analysis are profitable. This paper provides a model that explains the success of certain trading rules that are based on patterns in past prices. We point to the importance of confirmation bias, which has been shown to play a key role in other types of decision making. Traders who acquire information and trade on the basis of that information tend to bias their interpretation of subsequent information in the direction of their original view. This produces autocorrelations and patterns of price movement that can predict future prices, such as the "head-and-shoulders" and "double-top" patterns. The model also predicts that sequential price jumps for a particular stock will be positively autocorrelated. We test this prediction and find that jumps exhibit statistically and economically significant positive autocorrelations.

Original languageEnglish
Pages (from-to)1089-1100
Number of pages12
JournalJournal of Banking and Finance
Volume33
Issue number6
DOIs
StatePublished - Jun 2009

Fingerprint

Technical analysis
Autocorrelation
Jump
Trading rules
Prediction
Rule-based
Asset prices
Technical trading rules
Confirmation bias
Futures prices
Traders
Decision making

All Science Journal Classification (ASJC) codes

  • Economics and Econometrics
  • Finance

Cite this

Price trends and patterns in technical analysis : A theoretical and empirical examination. / Friesen, Geoffrey C.; Weller, Paul A.; Dunham, Lee M.

In: Journal of Banking and Finance, Vol. 33, No. 6, 06.2009, p. 1089-1100.

Research output: Contribution to journalArticle

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