Stock Charts Fail Forecast Test in Complete Miss of S&P Trading

egghead1

An article on Bloomberg.

My point is to show what TA indicators worked well in the past 18 months, not to bash TA. I actually believe in TA.



Stock Charts Fail Forecast Test in Complete Miss of S&P Trading
2009-05-03 23:01:00.5 GMT


By Michael Tsang and Eric Martin
     May 4 (Bloomberg) -- John Bollinger, inventor of the
“Bollinger bands” system of predicting stock movements with
price charts, says technical analysis works.
     “I don’t know what people are saying when they say somehow
indicators have broken down,” Bollinger, president of Bollinger
Capital Management, said in a telephone interview from Manhattan
Beach, California. “It’s like somehow saying streetlights don’t
work anymore. As long as people obey them, streetlights work.”
     Ever since the Standard & Poor’s 500 Index peaked in
October 2007, six of eight strategies -- which are supposed to
make money whether stocks rise or fall -- failed, according to
data compiled by Bloomberg. As the bear market erased $11
trillion from the value of U.S. equities, buy and sell signals
from those six technical indicators produced losses of as much
as 49 percent, the data show.
     “Technical analysis on its own as a discipline does not
work,” said Diane Garnick, the New York-based investment
strategist at Invesco Ltd., which oversees $348 billion. Using
it in isolation is “the fastest way to lose money,” she said.
     Of the eight strategies, stochastics, Bollinger bands,
relative strength, commodity channels, parabolic systems and the
Williams %R indicator generated buy and sell signals that
resulted in losses between the S&P 500’s peak of 1,565.15 on
Oct. 9, 2007, and its March 9 trough, the data show. They did
worse as the index then rallied 30 percent.

                             No Help

     The models failed to protect investors last year, when the
S&P 500 had its biggest decline since 1937, as price swings
reached a record, according to William Stone, chief investment
strategist at PNC Financial Services Group Inc.’s wealth
management unit, which oversees $96 billion in Philadelphia.
     Bollinger bands are designed to alert investors when a
security rises too high or falls too low by comparing its price
to the average level over the past 20 days. If the stock is 95
percent away from the average, a turnaround may be at hand,
Bollinger’s model says.
     When used to determine when to buy or bet against S&P 500
financial stocks, the technique produced a gain through mid-
September of $28,588 on a $100,000 investment, when banks
retreated 37 percent, data compiled by Bloomberg show.
     Profits evaporated in less than a month and turned into a
loss of $64,388 as the strategy failed to trigger any sell
signals during the rest of the bear market, when banks and
brokerages plummeted 72 percent.

                      Set-Ups, Confirmations

     John Bollinger says that methodology is too simple and his
bands should be used in conjunction with data on trading volume
to create “set-ups” and “confirmations” for investment
decisions. His fund, which aims to profit in any environment,
made money sometimes during the bear market. He declined to
comment on specific returns.
     Stochastics predicts a security’s movement based on how
close its price is to the highest or lowest levels. Stochastics
would have left anyone who started with $100,000 at the October
2007 peak with $75,881 by March 9, a 24 percent loss, according
to data compiled by Bloomberg.
     The trades were undone by the buy signals, which on eight
occasions suggested that the S&P 500 had fallen too far, too
fast, based on data compiled by Bloomberg that exclude trading
costs and unexpected price fluctuations at the moment of the
trade. Stochastics told traders to buy on Oct. 6 last year,
three weeks after Lehman Brothers Holdings Inc.’s bankruptcy.
The S&P 500 lost 14 percent in the following month.

                           Random Walk

     Burton Malkiel, whose 1973 investment text “A Random Walk
Down Wall Street” argued that price movements aren’t
predictable, says chart-based investing worsens returns.
     “People who think they are going to make excess profits
with technical analysis are kidding themselves,” Malkiel said
in a telephone interview from Princeton, New Jersey. “Most of
the people who say this is pretty good have some ax to grind.”
     Traders shouldn’t use charts without other technical data,
and choosing the most appropriate ones can both mitigate losses
and produce gains, said Katie Townshend Stockton, chief market
technician at Greenwich, Connecticut-based MKM Partners LLC.
     Each of the eight strategies would have cut losses for
investors benchmarked to the S&P 500. The directional movement
indicator and the moving average convergence/divergence
indicator flashed signals that made money even during the worst
financial crisis since the Great Depression.

                          Welles Wilder

     Directional movement is a theory developed by J. Welles
Wilder in 1978 that measures how far a security moves from an
average price range calculated from second to second. The system
is designed to gauge who is more eager to trade a security,
buyers or sellers.
     The so-called DMI generated a gain of 24 percent. The
moving average convergence/divergence indicator, which bases
trades on the difference between 12- and 26-day moving averages,
provided profits of $25,896 from a $100,000 investment.
     In both strategies, the signals that directed traders to
sell and then short the S&P 500 made more money than their buy
signals lost. Short sellers typically borrow shares from a
brokerage and then sell them on a bet they will be able to
repurchase the stock at a lower price.
     Returns also exceeded those of many who follow the
principles of value investing, the practice popularized by
Warren Buffett, the billionaire chairman of Omaha, Nebraska-
based Berkshire Hathaway Inc. He searches for the cheapest
companies relative to earnings or assets.

                          Cheap Stocks

     Buffett told shareholders at Berkshire’s annual meeting on
May 2 that “many” U.S. stocks have fallen to levels where they
are cheap relative to their intrinsic value. He said the housing
market is the biggest drag on the economy and remains “very
hard” to forecast.
     Bill Miller, whose Legg Mason Value Trust beat the S&P 500
for a record 15 straight years through 2005, produced a loss of
72 percent, including dividends, during the bear market.
     David Dreman was fired this year by Deutsche Bank AG’s
asset management unit after his flagship $2.62 billion DWS
Dreman High Return Equity Fund lost 65 percent. Both managers
piled into stocks such as Freddie Mac and American International
Group Inc., misjudging the severity of the financial meltdown.
     “It’s a little misleading to be looking at any indicator
in a vacuum,” said MKM’s Stockton. “It’s a matter of knowing
which ones to combine and knowing what environment you’re in.”
     None of the technical indicators produced a bigger return
than S&P 500’s 30 percent rally from its 12-year low on March 9.

                           Bad Signals

     Five sent signals that have resulted in losses of between
1.9 percent and 8.3 percent during the eight-week climb, which
added $2.29 trillion to the value of U.S. equities, data
compiled by Bloomberg show. The Williams %R indicator, which
calculates the difference between a security’s closing price and
its highest price and then compares the result with its average
over 14 days, handed traders who heeded its buy and sell signals
an $8,286 loss on $100,000 invested at the trough.
     Only one technical indicator, moving average
convergence/divergence, made money for investors during both the
bear market and the subsequent rebound.
     “Some of the indicators might work at given times, but
that’s not where I put my odds,” said PNC’s Stone, a certified
market technician who learned to read charts on the trading
floor of Salomon Brothers Inc. in the early 1990s. “You zigged
when you should have zagged.”

*T
Ranked Performance of Eight Technical Indicators

Indicator                              10/09/2007 - 3/09/2009

Relative Strength Index                                -49.0%
Williams %R                                            -41.7%
Commodity Channel Index                                -38.7%
Parabolic Systems                                      -36.6%
Bollinger Bands                                        -31.5%
Stochastics                                            -24.1%
Directional Movement Indicator                         +24.0%
Moving Average Convergence/Divergence                  +25.9%

S&P 500                                                -56.8%

--------

Indicator                               3/09/2009 - 5/01/2009

Commodity Channel Index                                 -8.3%
Williams %R                                             -8.3%
Bollinger Bands                                         -6.6%
Stochastics                                             -3.3%
Directional Movement Indicator                          -1.9%
Moving Average Convergence/Divergence                   +7.8%
Parabolic Systems                                       +8.2%
Relative Strength Index                                +21.8%

S&P 500                                                +29.7%

--------

Indicator                              10/09/2007 - 5/01/2009

Williams %R                                            -43.1%
Commodity Channel Index                                -40.3%
Parabolic Systems                                      -34.3%
Relative Strength Index                                -34.1%
Bollinger Bands                                        -22.2%
Stochastics                                            -21.8%
Directional Movement Indicator                          +9.0%
Moving Average Convergence/Divergence                  +24.6%

S&P 500                                                -43.9%



(Profit/loss calculations are based on SPX <Index> BTST <GO>.
If the first signal is a buy, then a position equivalent to
buying the S&P 500 is established and held until a sell signal
is triggered, at which time the position is liquidated and a
short position is immediately established. If the first signal
is a sell, then a short position on the S&P 500 is put in place
until a buy signal prompts the short to be covered and replaced
with a long position. The results exclude any trading costs, and
all trades are executed at the signal price.)
*T

xxxSWING

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