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The Obstinate Passion of Foreign Exchange Professionals : Technical Analysis

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  • Menkhoff, Lukas

    (University of Hannover)

  • Taylor, Mark P.

    (University of Warwick and Centre for Economic Policy Research)

Abstract

Technical analysis involves the prediction of future exchange rate (or other assetprice) movements from an inductive analysis of past movements. A reading of the large literature on this topic allows us to establish a set of stylised facts, including the facts that technical analysis is an important and widely used method of analysis in the foreign exchange market and that applying certain technical trading rules over a sustained period may lead to significant positive excess returns. We then analyze four arguments that have been put forward to explain the continuing widespread use of technical analysis and its apparent profitability: that the foreign exchange market may be characterised by not-fully-rational behaviour; that technical analysis may exploit the influence of central bank interventions; that technical analysis may be an efficient form of information processing ; and finally that it may provide information on nonfundamental influences on foreign exchange movements. Although all of these positions may be relevant to some degree, neither non-rationality nor official interventions seem to be widespread and persistent enough to explain the obstinate passion of foreign exchange professionals for technical analysis.

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Paper provided by University of Warwick, Department of Economics in its series The Warwick Economics Research Paper Series (TWERPS) with number 769.

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Length: 61 pages
Date of creation: 2006
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Handle: RePEc:wrk:warwec:769

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Keywords: foreign exchange market ; technical analysis ; market microstructure;

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