On Technical Analysis ...
A Philosophical Exploration
If you have been a follower, you will know that I do intensively look at technical patterns when determining likely market moves. I have to admit that I used to laugh at technical analysis (TA) in my earlier years. I was a more fundamental investor back then, dismissive of behavioural patterns that might repeat.
This changed firmly a few years before the onset of the financial crisis, mostly due to my readings of Soros’ “Alchemy of Finance”. His reflexivity theory, in short, is rooted in the belief that markets are constantly in a state of disequilibrium rather than equilibrium. Markets are driven by the fallible and biased beliefs of its many participants. These beliefs influence the actions individuals take, leading to a cycle where their beliefs and actions continuously interact, culminating in boom/bust sequences that move markets away from equilibrium.
I reflected on my own behaviour and investing patterns and my general observations of others around me. Further philosophical studies of Popper, Hayek and behavioural economists would underpin my curiosity to seek a way to analyse behaviour patterns in more detail. As far as I was concerned, the efficient market hypothesis had no application in the real world. I was after methods that analyse absolute and relative market behaviours across markets. And so I started applying the “dark art” in my overall investment process.
With any application that goes into your investment process, you will be well served by researching a framework and belief system as to “why” you think it works and “how” it works. Many are asking me what goes into my models, etc., but that’s missing the point. We can all go and select hundreds of different TA tools in a second. This, in my view, is meaningless if you don’t lay any foundations.
The following is a detailed analysis of my path to TA and its applicability. We will be exploring philosophical and psychological theories that have led me to my way of looking at things. This in no way assumes that this is perfect or complete. To walk you through it, I will mostly use equity markets as a way of explaining my logic, as it’s the most diverse playing field with a vast amount of actors involved. Rates, FX & commodities have their own individual complexities, which I will cover in separate posts. Let’s tackle Equities first.