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The Economic Value of Technical Trading Rules: A Non-parametric Utility-based Approach

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Author Info
Hans Dewachter () (K.U.Leuven and Erasmus University Rotterdam)
Marco Lyrio () (K.U.Leuven, C.E.S., International Economics)

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Abstract

We adapt Brandt's (1999) nonparametric approach to determine the optimal portfolio choice of a risk averse foreign exchange investor who uses moving average trading signals as the information instrument for investment opportunities. Additionally, we assess the economic value of the estimated optimal trading rules based on the investor's preferences. The approach consists of a conditional generalized method of moments (GMM) applied to the conditional Euler optimality conditions. The method presents two main advantages: (i) it avoids ad hoc specifications of statistical models used to explain return predictability; and (ii) it implicitly incorporates all return moments in the investor's expected utility maximization problem. We apply the procedure to different moving average trading rules for the German mark- U.S. dollar exchange rate for the period 1973-2001. We find that technical trading rules are partially recovered and that the estimated optimal trading rules represent a significant economic value for the investor.

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Publisher Info
Paper provided by Katholieke Universiteit Leuven, Centrum voor Economische Studiën, International Economics in its series International Economics Working Papers Series with number ces0203.

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Length: 32 pages
Date of creation: Mar 2002
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Handle: RePEc:kul:kulwps:ces0203

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Related research
Keywords: Technical trading ruls exchange rates nonparametric methods

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Find related papers by JEL classification:
F31 - International Economics - - International Finance - - - Foreign Exchange
G15 - Financial Economics - - General Financial Markets - - - International Financial Markets

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Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
  1. Ait-Sahalia, Y. & Brandt, M.W., 2001. "Variable Selection for Portfolio Choice," Papers 34, Manitoba - Department of Economics.
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  2. Michael W. Brandt, 1999. "Estimating Portfolio and Consumption Choice: A Conditional Euler Equations Approach," Journal of Finance, American Finance Association, vol. 54(5), pages 1609-1645, October. [Downloadable!] (restricted)
  3. Blake LeBaron, . "Do Moving Average Trading Rule Results Imply Nonlinearities in Foreign Exchange?," Working papers _005, University of Wisconsin - Madison. [Downloadable!]
  4. C.L. Osler & P.H. Kevin Chang, 1995. "Head and shoulders: not just a flaky pattern," Staff Reports 4, Federal Reserve Bank of New York. [Downloadable!]
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