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Technical analysis and stock return predictability: An aligned approach

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  • Lin, Qi

Abstract

This paper provides an empirical evaluation of the U.S. aggregate stock market predictability based on a new technical analysis index that eliminates the idiosyncratic noise component in technical indicators. I find that the new index exhibits statistically and economically significant in-sample and out-of-sample predictive power and outperforms the well-known technical indicators and macroeconomic variables. In addition, it can predict cross-sectional stock portfolio returns sorted by size, value, momentum, and industry and generate substantial utility gains for a mean-variance investor. A vector autoregression-based stock return decomposition shows that the economic source of the predictive power predominantly comes from time variations in future cash flows (i.e., the cash flow channel).

Suggested Citation

  • Lin, Qi, 2018. "Technical analysis and stock return predictability: An aligned approach," Journal of Financial Markets, Elsevier, vol. 38(C), pages 103-123.
  • Handle: RePEc:eee:finmar:v:38:y:2018:i:c:p:103-123
    DOI: 10.1016/j.finmar.2017.09.003
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    1. repec:eee:finana:v:63:y:2019:i:c:p:1-9 is not listed on IDEAS
    2. repec:eee:ecmode:v:78:y:2019:i:c:p:32-39 is not listed on IDEAS
    3. repec:eee:pacfin:v:54:y:2019:i:c:p:132-146 is not listed on IDEAS

    More about this item

    Keywords

    Technical analysis; Equity risk premium; Partial least squares method; Predictive regression; Cash flow channel;

    JEL classification:

    • C53 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Forecasting and Prediction Models; Simulation Methods
    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G14 - Financial Economics - - General Financial Markets - - - Information and Market Efficiency; Event Studies; Insider Trading

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