The most important plot in finance

In this post we look at the one plot that proves that technical analysis is useless.

Technical analysis and horoscopes

As volatility has returned in recent months, investors have sought advice from asset managers and other investment professionals. In many instances, such advice includes technical analysis (TA). Even many highly respected investment firms and financial news sources promote TA:

Charles Schwab represents TA as an indispensable tool for active traders (examples: here and here). Merrill Lynch offers a Market Analysis Technical Handbook. Some Bank of America / Merrill Lynch analysts utilize technical analysis: here. Fidelity considers TA an advanced technique

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Does indexing threaten the market?

Introduction

Index investing has grown significantly over the past 30 years. Back in 1990, few were even aware of the option for indexing, and options were limited mostly to a handful of conventional mutual funds tracking the U.S. S&P 500 index. In 1993, Boston’s State Street Global Advisors launched the first S&P 500 index-tracking exchanged traded fund (ETF), with ticker SPY. Today this ETF controls over USD$300 billion in assets. Thousands of other index-tracking mutual funds and ETFs, tracking numerous different indices, in numerous different world markets and regions, are now in operation; in the U.S. alone, there were 1716

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Can mutual fund investors beat the market?

FTSE 100 index

Introduction

Many individual investors employ mutual funds as an alternative to direct ownership of stocks or bonds.

Indeed, mutual funds have some advantages:

Diversity: Even a single fund can encapsulate a large sector of the market. Peace of mind: One is less likely to stress out about sudden bad news regarding a particular firm if one owns shares in it only indirectly as part of a large mutual fund’s portfolio. Management fees: Several leading index mutual funds have even lower management fees than corresponding exchange-traded funds (ETFs). And as a class, mutual funds have significantly lower

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Can the January effect be exploited in the market?

Hoarfrost: Courtesy Wikimedia

Introduction

The “January effect,” in common with the “Halloween indicator” and “sell in May and go away”, is a catchy, get-rich-quick investment idea adored by financial commentators because it is so easy to explain to unsophisticated readers. It rests on the claim that the U.S. stock market performs better in January, compared to the other months in the year.

Unfortunately, financial reports promoting the “January effect” are often vague and confusing. One recent example is here, which, like others in this genre, lacks a specific actionable investment strategy. In fact, this particular report does not even

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How is big data impacting the finance world?

Introduction

“Big data” is already a frequently-heard buzzword, both in the business analytics arena, but also in the field of high-performance scientific computing. Basically, “big data” encompasses the collection, processing, indexing and utilization of large-scale datasets. Some concrete examples include temperature and sunlight data downloaded from satellites monitoring of the Earth’s environment, particle tracking data produced by the Large Hadron Collider in Europe, and anonymized smartphone position data made available, in some cases, by wireless operators and even certain smartphone applications.

Courtesy Quandl, DigitalGlobe and Orbital Insight

Big data has enormous potential to revolutionize the world of finance, mainly

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Will artificial intelligence upend the financial world?

Many now accept that artificial intelligence, robotics and other high-tech developments will upend blue-collar professions such as retail sales, truck driving, package delivery, fast food and more. Some observers now estimate that self-driving vehicles could replace 1.7 million truckers in the next decade. Drivers of delivery vehicles could see their jobs replaced by Amazon drones.

But what about finance, the epitome of white collar employment? Far from being immune, white collar occupations in general, and finance in particular, are arguably even more prone to be substantially affected. Entire categories of highly-paid workers could be rendered obsolete in a matter of

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Poor investor performance: What can be done?

Are workers saving enough?

As we emphasized in a 2014 Mathematical Investor blog, individual investors are not very well equipped, and certainly not very effective, in managing their own investment savings. They chronically fail to save enough, and very often mismanage what they do save.

This is unfortunate, because fewer workers than in the past, particularly in the U.S., are covered by a “defined-benefit” retirement system (pension). Instead, a growing fraction of workers rely on 401(k) systems or the equivalent, where they optionally contribute to an investment fund that they have either partial or full discretion to manage. More than

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Charts and technical analysis: Do they work?

Charts

Examining charts is a long-standing fixture of modern finance. For example, we have all seen “scary charts”, which often spread like viruses. One example is the following (first chart). But as Matthew O’Brien pointed out, the scary parallel pretty much disappears if one scales the two charts properly (second chart):

Technical analysis

Charting typically goes hand-in-hand with “technical analysis,” namely the usage of relatively unsophisticated analysis schemes, typically computed from high-level statistics on stock market data. The field has its own terminology, as exemplified for example by a recent report in the Concord Register: parabolic stop and reverse

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Which hedge funds actually beat the market?

Introduction

The last few years have been difficult times for hedge funds. For the majority of these funds, performance has lagged market averages, certainly not in keeping with the exalted fees charged by the fund managers. For example, as of 1 July 2017, the HFRI Fund Weighted Composite Index is up 3.28% year-to-date, and 4.79% annualized gain for the previous 5 years. The corresponding figures for the S&P500 Index (including dividends) are 9.34% and 13.6%.

These chronic performance shortfalls have led many clients to rethink their hedge fund investments. In 2014, the California Public Employees’ Retirement System (CalPERS), the largest

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Gender, marital status and investment performance

The folly of panic selling and market timing

A recent DALBAR study found that over a 30-year period, the average self-directed equity mutual fund investor earned only 3.7 percent, compared with 10.3 percent that could be obtained by simply investing in a S&P500 index fund. Much of this huge shortfall is due to panic selling during market downturns, or attempts to time the market.

A typical scenario is that in the midst of a market downturn, investors panic and sell out, with the intent of waiting for the market to “bottom out” before reinvesting. Some investors believe that they can

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