Journal of TA #67 (2013)

Jota Journal
Of Technical Analysis
Issue 67
(Published 2013)
Journal of Technical Analysis • 2013 • Issue 67
Table of Contents
Editorial Board 2
Letter from the Editor 3
1 Analyzing Gaps for Profitable Trading Strategies

Julie R. Dahlquist, Ph.D., CMT
5
Richard J. Bauer, Jr., Ph.D., CFA, CMT
2 A Momentum Trading Effect in Real Estate Funds:

An Analysis with TIAA-CREF
16
Greg Kuhlemeyer, Ph.D. , Carroll University

Robert Kunkel, Ph.D., University of Wisconsin Oshkosh
3 A Synthesis of Technical Analysis and Fractal Geometry:

Evidence from the Components of the Dow Jones Industrial Average
25
Camillo Lento, PhD, CA, CFE
4 How The Advance-Decline Indicators Came About

From Observations, Logic, and Perseverance
46
George A Schade, Jr., CMT
5 Planes, Trains and Automobiles:

A Study of Various Market Thrust Measures
57
Wayne Whaley
The Organization of the Market Technicians Association, Inc. 69
Journal of Technical Analysis • 2013 • Issue 67 1

Editorial Board
Julie Dahlquist, Ph.D., CMT

Editor
University of Texas at San Antonio
Stanley Dash Jeremy du Plessis, CMT

VP, Applied Technical Analysis Head of Technical Analysis
TradeStation Securities and Product Development
Updata
Fred Meissner, CMT
Cynthia A. Kase, CMT, MFTA
David Aronson, CMT President
President Kase and Company, Inc., CTA
Hood River Research Inc. &
TSSB Software.com Sid Mokhtari, CMT
CIBC World Markets
Kevin Lapham, CMT
Portfolio Manager Gordon Scott, CMT
Investment Coach, E-learning developer
Kristin Hetzer, CMT, CIMA, CFP Beacon Learning Group
Royal Palms Capital LLC
Carson Dahlberg, CMT
Richard J. Bauer, Jr., PhD., CMT, CFA Partner
Professor, Finance Northington Dahlberg Research
St. Mary’s University
Publisher
Market Technicians Association, Inc.
61 Broadway, Suite 514
New York, New York 10006
646-652-3300
www.mta.org
Journal of Technical Analysis is published by the Market Technicians Association, Inc., (MTA) 61 Broadway, Suite 514, New York, NY 10006. Its purpose is to
promote the investigation and analysis of the price and volume activities of the world’s financial markets. Journal of Technical Analysis is distributed to individuals
(both academic and practitioner) and libraries in the United States, Canada and several other countries in Europe and Asia. Journal of Technical Analysis is copyrighted
by the Market Technicians Association and registered with the Library of Congress. All rights are reserved.
2 Journal of Technical Analysis • 2013 • Issue 67

Letter from the Editor
Greetings from the Editor!
The mission of the Journal of Technical Analysis (JOTA) is to advance the

knowledge and understanding of the practice of technical analysis through
the publication of well-crafted, high-quality papers in all areas of technical
analysis. While the MTA membership is the primary audience for the
journal, the readership reaches far beyond the organization. The journal’s
presence in libraries and electronic databases allows both practitioners and
academics around the world to access its content.
The articles in this issue highlight the diversity of topics which are of interest to the technical analyst. George
Schade provides a history of the development of the advance-decline indicators. The MTA is a leader in
providing a record of these historical developments for future generations of technical analysts. George’s
article also reminds us that observing the market and asking simple questions can lead to timeless indicators.
Gregory Kuhlemeyer and Robert Kunkel demonstrate how the classic notion of momentum can be used as a
trading tool in a specific market. The article by Camillo Lento highlights how the application of other fields,
such as fractal geometry, can increase our understanding of the market.
In addition to these three new articles, we are printing the 2010 and 2011 Charles H. Dow Award winning
papers in this issue. Wayne Whaley’s paper, “Planes, Trains, and Automobiles: A Study of Various Market
Thrust Measures,” analyzes the use of thrust and capitulation measures as tools for gauging the potential for
sizable intermediate market moves. “Analyzing Gaps for Profitable Trading Strategies,” written by Richard
Bauer and me, provides insight into the price movement that tends to occur after a stock gaps up or down.
The production of an issue is a complex process, requiring the assistance of many individuals. Of course, a
journal begins with authors who desire to share their knowledge, expertise, and experience with the broader
community of technical analysts. But, that is just the beginning. Once papers are submitted for consideration,
they are subjected to a double-blind review process. In this process, papers are reviewed by at least two
experts who provide feedback regarding the accuracy of the work as well as gauge the suitability of the piece
for publication in the Journal of Technical Analysis. This is known as a double-blind review process because
the reviewers do not know the identity of the author and the author does not know the identity of the reviewers.
In addition, the staff at the MTA office provides significant support in the production and distribution process.
I would like to thank all of those who contributed to this process. If you are considering submitting an article
for a future issue, or if you would like to serve as a reviewer, let me know.
Julie Dahlquist, Ph.D., CMT

Submission and Style Instructions
1. All submitted manuscripts must be original work that is not under submission at another journal or under consideration for
publication in another form, such as a monograph or chapter of a book. Authors of submitted papers are obligated not to submit
their paper for publication elsewhere until the Journal of Technical Analysis renders an editorial decision on their submission.
Further, authors of accepted papers are prohibited from publishing the results in other publications that appear before the paper
is published in the Journal of Technical Analysis, unless they receive approval for doing so from the editor.
Upon acceptance of the paper for publication, we maintain the right to make minor revisions or to return the manuscript to the
author for major revisions.
2. Authors must submit papers electronically in Word (*.doc) format. Submit all figures (charts) in *.jpg or *.bmp to
journal@mta.org. Manuscripts must be clearly typed with double spacing. The pitch must not exceed 12 characters per inch,
and the character height must be at least 10 points.
3. The cover page shall contain the title of the paper and an abstract of not more than 100 words. The title page should not include
the names of the authors, their affiliations, or any other identifying information. That information plus a short biography
including educational background, professional background, special designations such as Ph.D., CMT, CFA, etc., and present
position and title must be submitted on a separate page.
4. An acknowledgement footnote should not be included on the paper but should also be submitted on a separate page.
5. The introductory section must have no heading or number. Subsequent headings should be given Roman numerals. Subsection
headings should be lettered A, B, C, etc.
6. The article should end with a non-technical summary statement of the main conclusions. Lengthy mathematical proofs and very
extensive detailed tables or charts should be placed in an appendix or omitted entirely. The author should make every effort to
explain the meaning of mathematical proofs.
7. Footnotes: Footnotes in the text must be numbered consecutively and typed on a separate page, double-spaced, following the
reference section. Footnotes to tables must also be double-spaced and typed on the bottom of the page with the table.
8. Tables: Tables must be numbered with Roman numerals. Please check that your text contains a reference to each table. Indicate
with a notation inserted in the text appropriately where each table should be placed. Type each table on a separate page at the
end of the paper. Tables must be self-contained, in the sense that the reader must be able to understand them without going back
to the text of the paper. Each table must have a title followed by a descriptive legend. Authors must check tables to be sure that
the title, column headings, captions, etc. are clear and to the point.
9. Figures: Figures must be numbered with Arabic numerals. All figure captions must be typed in double space on a separate
sheet following the footnotes. A figure’s title should be part of the caption. Figures must be self-contained. Each figure must
have a title followed by a descriptive legend. Final figures for accepted papers must be submitted as either *.jpg or *.bmp files.
10. Equations: All but very short mathematical expressions should be displayed on a separate line and centered. Equations must
be numbered consecutively on the right margin, using Arabic numerals in parentheses. Use Greek letters only when necessary.
Do not use a dot over a variable to denote time derivative; only D operator notations are acceptable.
11. References: References to publications in the text should appear as follows:
“Jensen and Meckling (1976) report that...”
References must be typed on a separate page, double-spaced, in alphabetical order by the leading author’s last name. At the end
of the manuscript (before tables and figures), the complete list of references should be listed in the formats that follow:
For monographs or books:
Fama, Eugene F., and Merton H. Miller, 1972, The Theory of Finance (Dryden Press, Hindsdale, IL)
For contributions to major works:
Grossman, Sanford J., and Oliver D. Hart, 1982, Corporate financial structure and managerial incentives, in John J. McCall,
ed.: The Economics of Information and Uncertainty (University of Chicago Press, Chicago, IL)
For Periodicals:
Jensen, Michael C., and William H. Meckling, 1976, Theory of the firm: Managerial behavior, agency costs and ownership
structure, Journal of Financial Economics 3, 305-360
Please note where words are CAPITALIZED, italics are used, (parentheses) are used, order of wording, and the position of
names and their order.

Analyzing Gaps for Profitable Trading Strategies
Julie R. Dahlquist, Ph.D., CMT

Richard J. Bauer, Jr., Ph.D., CFA, CMT
1
Gaps have attracted the attention of market technicians since the earliest days of stock charting. A gap up
occurs when today’s low is greater than yesterday’s high (See Gap A in Figure 1). A gap down occurs when
today’s high is lower than yesterday’s low (See Gap B in Figure 1.). A gap creates a hole in a daily price
bar chart. This gap is called a “window” when using candlestick charts. A gap up is referred to as a “rising
window” and is considered a bullish signal. A “falling window,” which is a gap down, gives a bearish signal.
(Nison, 2001)
It is easy to understand why early technicians noticed gaps; gaps are conspicuous on a stock chart. However,
technicians did not just pay attention because they were easy to spot. Because gaps show that price has
jumped, they may represent some significant change in what is happening with the stock and signal a trading
opportunity. According to Edwards and Magee, the importance attached to gaps was unfortunate because
there soon accumulated a welter of ‘rules’ for their interpretation some of which have acquired
an almost religious force and are cited by the superficial chart reader with little understanding
as to why they work when they work (and, of course, as is always the case with any superstition,
an utter disregard of those instances where they don’t work).
Edwards and Magee, 1966, p 190
Given the persistence of some of these superstitions, such as “a gap must be closed,” surprisingly little
study has been undertaken to analyze the effectiveness of using gaps in trading. In this paper we provide a
comprehensive study of gaps in an attempt to isolate gaps which present profitable trading strategies.
Literature Review
Breakaway gaps occur when price suddenly breaks through a formation boundary and signal the beginning
of a trend. These are thought to be the most profitable gaps. In fact, David Landry (2003) provides a method
for mechanizing trading of breakaway gaps known as the “explosion gap pivot.” Runaway gaps, also known
as measuring gaps, occur during a trend, often in the middle of a price run. These gaps are traded in the
direction of the gap to profit from the directional trend. According to Bulkowski (2010), an upward runaway
gap occurs on average 43% of the distance from the beginning of the trend to the eventual peak, and a runaway
gap down occurs at 57% of the distance on average.
However, a third type of gap, the exhaustion gap, occurs at the end of a strong trend; because price may
reverse immediately or remain in a congestion area for some time, trading these gaps should be avoided.
In hindsight it is easy to recognize an exhaustion gap from the profitable breakaway and runaway gaps,
but as they are occurring, the gaps can have similar characteristics. In his book The Master Swing Trader,
Alan Farley (2000) extends Edwards and Magee’s discussion of gaps to include a “hole-in-the-wall” strategy.
Farley gives extended examples of situations where an exhaustion gap occurs in the opposite direction from
what would be expected to occur.
Few of the detailed studies of gaps have systematically considered gaps occurring in the stocks of publicly
traded companies. Instead, most have dealt with index futures contracts or tracking stocks such as SPY. For

Figure 1
Gaps, or Windows on a Bar Chart
example, Weintraub (2007) claims that the tendency for a gap to be closed is indirectly proportional to the
size of the gap; he attempts to distinguish between common gaps and breakaway gaps by considering the
magnitude of the gap in the mini index futures contracts. Bukey (2008) studies double gaps, defined as two
gaps occurring within ten days of each other, in SPY. He finds that double gaps are unremarkable unless they
are divided into two categories: filled and unfilled. If SPY gaps up twice within a 10-day period and the first
gap was not filled, the market is more likely to fall the next day and then trade sideways. If the first gap is
filled, then the SPY drop is often delayed. Also, if the SPY double gaps down and the first gap was filled, then
the market is more likely to rebound within four days.
Data and Methodology
To study more closely the gaps for individual stocks, we consider stocks included in the Russell 3000
between January 1, 2006 and December 31, 2010.1 During this time period, 20,611 gap ups occurred and
17,435 gap downs occurred. With 1,259 trading days in the sample, this is an average of about 16.4 stocks
gapping up and 13.8 stocks gapping down each trading day. Although some days, such as April 1, 2009,
which had 375 gap up stocks and February 17, 2009, which had 409 gap down stocks, have a much higher
observation of gaps, a typical day is characterized by at least a few gaps. Gap ups occurred on 1153, or 91.6%,
of the trading days. Gap downs occurred on 1033, or 88%, of the days. A gap of one variety or the other
occurred on 1164, or 92.5%, of the days.
The gapping stocks represented a wide range of companies. One-thousand-one-hundred-and-thirty-three
of the stocks in our sample experienced at least one gap up, and 1,135 experienced at least one gap down.
Throughout this study, we use “Day 0” to represent the day a gap occurs. For example, consider a gap
up. The day before the gap is Day -1 and the stock’s high on Day -1 is the beginning of the gap. On the next
day (Day 0), the stock’s low exceeds the high on Day -1. We base our return calculations from the open at
the next day (Day 1) to the close on Day 1 to calculate a 1-day return. To calculate longer returns, the return
1
To be included in this sample, a stock had to have a trading volume of over 1 million shares on the gap day and the four prior trading days to
ensure that decent liquidity existed.

is calculated from the open at Day 1 to the close on the day of the return length; therefore, a 3-day return is
calculated as buying at the open of Day 1 and selling at the close of Day 3.
Results
Gap Ups
Table 1 shows the overall results for trades based on observing gap ups. On Day 1, the day following a gap
up, a stock averages a price decline of 0.056%.2 While following a trading strategy of going long a stock that
gaps up one day after the gap is not profitable in our sample, this result must be considered given the overall
market backdrop of this time period.
Investing in SPY instead of the gap up stocks presented in Table 1 would have resulted in an average loss
of 0.06% on these days. Thus, the stocks that gapped up performed much better the day after the gap than did
the average stock in the market. If the gapping stock is held for 5 or 20 days after the gap, on average, the
return will be positive and higher than the market return. These results suggest that stocks that gap up do, on
average, outperform the market over the next several weeks.
A closer look at the data, however, reveals that these gains come from a subset of the stocks—those that
are characterized by a white candle on the gap day (such as Gap A in Figure 1). The results suggest that when
a stock gaps up and closes higher than it opens, this upward price trend will continue for the next few trading
days, leading to a profitable trading strategy. However, if the price gaps up, but the close is lower than the
open, even though the gap remains unfilled, don’t expect the upward price movement to continue. Stocks
exhibiting these black candlesticks on the day the gap occurs tend to have negative returns, and underperform
the market over the next several days.
Looking at the price movement on the day of the gap appears to help identify profitable trading opportunities.
What if this analysis is extended to looking at the price movement the day before the gap occurs? Table 2
presents returns broken down by Day -1 candle color. This table shows that a black candle on Day -1 followed
by a white candle on Day 0 is associated with above market returns.
2
Numbers in all tables throughout the paper are percentage returns. Thus “-0.056” in the table represents a 0.056% decline.

Is gap size important to the trader? A gap simply means that there is a void on the price chart at which no
shares traded hands. This void could be very small (a penny) or it could be large (several dollars). Kirkpatrick
and Dahlquist (2011) suggest that the size of a gap will be proportional to the strength of the subsequent price
move for breakaway gaps. Hartle and Bowman (1990) suggest that relatively small gaps are not significant.
In order to see if the size of a gap indicates the significance of the gap, we measure the percentage change in
price from the Day -1 high to the Day 0 low. We then took the entire sample of gap sizes and broke them into
size quintiles. The 5th quintile is comprised of those stocks with the largest gaps.
Table 3 shows the impact of the gap size (in quintiles) on subsequent returns for gap ups. It appears that
larger gaps tend to signal that the stock is making a good upward move that may persist. As can be seen, the
returns for those stocks in the 4th quartile in terms of gap size are quite strong, especially when a white candle
occurred.

Next we consider the question of “How important is the gap day volume?” Traditional technical analysis
theory suggests that breakouts that occur on high volume are meaningful, and Kirkpatrick and Dahlquist
(2011) claim that heavy volume usually accompanies upward gaps. Nison (2001) states that high volume
increases the importance of a window. Tables 4 and 5 provide results for comparing the volume on the gap
day to previous short-term volume (3 days) and long-term volume (30 days) for the stock. Little insight can
be gained by the data in Table 4 except for the fact that it appears that stocks that gap up on heavier volume
tend to outperform those gapping up on low volume at the 20-day time horizon. Looking at volume relative
to average volume over a longer time horizon appears more useful. Table 5 shows that stocks gapping up
on volume higher than the 30-day average volume consistently outperform stocks that gap up on lower than
average volume.
Table 6 shows the results for gaps occurring above and below the 10-day moving average of price. Gap
ups that occur below the 10-day moving average of price have positive market adjusted returns for the one-,
three-, five-, and 20-day time periods. This suggests that gaps occurring below a 10-day moving average are
breakaway gaps, beginning an upward trend; this is especially true for gaps that have a white candle on the
day the gap occurs. Gaps occurring above the 10-day moving average tend to have a below market return,
suggesting that these are exhaustion gaps.

Tables 7 and 8 further explore the gap occurrence relative to the moving average by considering longer
moving averages. Table 7 shows the returns for gaps based upon whether the gap occurs below or above the
30-day moving average, and Table 8 shows the results using a 90-day moving average. These results reinforce
the idea that gaps occurring at relatively lower prices tend to outperform gaps occurring at relatively higher
prices, especially at the 1- and 3-day time intervals. However, comparing these results to Table 6 we find
that gaps occurring below the 10-day moving average tend to have higher returns than gaps occurring below
longer moving averages.

Gap Downs
Table 9 begins the exploration of down gaps. A gap down is a downward move; so, a trend following
strategy would suggest going short when a gap down occurs. Table 2 indicates that the day following a gap
down, a stock’s price does indeed continue to fall. Not only does the stock price fall, but also the fall is,
on average, almost two times greater than the decline in the overall market on those days. This downward
movement in stock price tends to continue for the next couple of days, resulting in a three-day market adjusted
return that is negative.
These results suggest going short the day after a gap down, whether the candle is black or white, but only
for the next few days. The positive 5-day and 20-day price movements for the gap down stocks suggests that
the downward stock price movement is short lived, and being long these stocks several days after their gap
down is profitable.
Table 10 looks at this trending question a little more closely by considering the color of the candle the day
before the gap occurs as well as the day of the gap. These results suggest that the shorting strategy is most
profitable when a white candle on Day -1 is followed by a gap down. Surprisingly the strongest downward move
occurs when a white candle occurs on Day -1 and Day 0. In this case, a short strategy is profitable out to Day 5.

Next, we consider the impact of size on the profitability of trading a gap down in Table 11. As before,
the 5th quintile contains the largest relative gap sizes. These results are a bit perplexing. The fifth quintile
gap downs are more likely to persist in downward price movement for the first three days following the gap.
Remember, however, that on average that we found that gap downs reverse and should be traded long in the
5- and 20-day trading ranges. This is especially true for stocks making a large downward move on the gap. In
fact, we find that the market adjusted 20-day return for being long the stocks in the 5th quintile is over 0.8%
and for stocks in the 4th quintile is over 1%.
Turning to the question of the impact of volume associated with down gaps, we see some interesting
results in Table 12 and 13. While general opinion has been that volume is important when analyzing gap ups,
Pring (1991) and Kirkpatrick and Dahlquist (2011) claim that volume is not an important consideration when
considering gap downs. However, above average volume, measured either at the 3-day or 30-day level, for
a down gap does seem to be associated with better performance of a short strategy at the one- and three-day
trading time frames in our study. What is most striking, however, is the performance of the low volume down
gaps. Down gaps that appear on low volume must be watched carefully. While these stocks have negative
returns the day after the gap (suggesting a short strategy), they have positive returns in the 3-, 5-, and 20-day
time horizons, and, especially at the 20-day time horizon, outperform the market. Down gaps occurring on
light volume tend to reverse trend quickly; a long position should be taken in these stocks.

Next we considered whether the gap occurred above or below the moving average of price. Table 14
displays the results for the 10-day moving average. This data highlights the fact that it is generally profitable
to go short for one day after a gap down; the stocks that gap down fall more than the market the day after the
gap, whether the gap occurs above or below the 10-day moving average. The negative movement of the stock
price continues to the 3-day time period, but is greater in absolute value than the fall in the general market only
for stocks in which the gap down occurs above the 10-day moving average.
Tables 15 and 16 consider longer moving averages. These two tables suggest that the stocks that are already
relatively low in price (trading below their 30-day and 90-day moving averages) are the most profitable stocks
to short on a gap down for the one-day and three-day time periods. However, these stocks tend to reverse
direction and outperform the market at the five-day and 20-day horizons. Interestingly, stocks that experience
a gap down when trading above their 30-day or 90-day moving average tend to outperform the market by over
1.3% over the next 20 days.

Conclusion
It is easy to classify gaps as breakaway, runaway, or exhaustion gaps in hindsight. However, after-the-fact
classification is not helpful when trading. By looking at the characteristics of unfilled gaps the day the gap
occurs, we attempt to identify profitable trading positions to enter the following day. We determine that white
candles on the day of the gap are associated with higher returns. Traders should also look for larger percentage
gaps, gaps preceded by a black candle, gaps occurring on above average volume, and gaps occurring below
the 10-day moving average of price, as these gaps are associated with above market returns. These findings
are consistent with much of traditional technical analysis thought.
However, when we turn to gap downs, we find some results that are somewhat surprising. We find that
gap downs tend to be followed by downward price movement only for a few days. By five days after the gap
down, these stocks actual outperform the market. This is especially true for the stocks that gap down by the
largest percentage. Also, stocks that gap down at above average prices are the stocks that tend to outperform
the market over the next several weeks. These results suggest that down gaps may be traded in the direction
of the trend (that is shorted) for a few days, but that these stocks, especially those with a large gap occurring
above the average price and on low volume, are stocks to take a long position in several days after the gap.

References
Bukey, David, “Double Gaps,” Active Trader, Vol. 9 (3), 2008, pp 14-20.
Bulkowski, Thomas N., “Bulkowski’s Free Pattern Research,” http://www.thepatternsite.com, 2010.
Edwards, Robert D. and John Magee, Technical Analysis of Stock Trends, Springfield, MA: John Magee,
1966.
Farley, Alan, The Master Swing Trader: Tools and Techniques to Profit from Outstanding Short-Term Trading
Opportunities, New York: McGraw Hill, 2000.
Hartle, Thom and Melanie F. Bowman, “Gaps,” Technical Analysis of Stocks and Commodities, Vol. 8 (12),
1990, pp 453-455.
Kirkpatrick, Charles D. and Julie R. Dahlquist, Technical Analysis: The Complete Resource for Financial
Market Technicians, Upper Saddle River, NJ: Pearson Education, Inc., 2011.
Landry, David, Dave Landry’s 10 Best Swing Trading Patterns and Strategies, Los Angeles, CA: M. Gordon
Publishing Group, 2003.
Nison, Steve, Japanese Candlestick Charting Techniques, 2nd ed., New York: New York Institute of Finance,
2001.
Pring, Martin J., Technical Analysis Explained, 3rd ed., New York: McGraw Hill, Inc., 1991
Weintraub, Neil, Tricks of the Active Trader: An Insider’s Techniques for Getting the Edge, New York:
McGraw Hill, 2007.
About the Authors
Julie. R. Dahlquist, Ph.D., CMT Richard J. Bauer, Jr., Ph.D., CFA, CMT
Senior Lecturer Professor of Finance
University of Texas at San Antonio Bill Greehey School of Business

A Momentum Trading Effect in Real Estate Funds:
2
An Analysis with TIAA-CREF
Greg Kuhlemeyer, Ph.D., Carroll University
Robert Kunkel, Ph.D., University of Wisconsin Oshkosh
Abstract
This study evaluates whether there is a momentum trading effect in real estate funds by examining the
TIAA Real Estate Account. We employ three return moving averages to develop a technical signal to identify:
(i) momentum trading days when investors are invested in the real estate fund and (ii) non-momentum trading
days when investors are not invested in the real estate fund. Our tests show a strong momentum trading
effect where the mean daily return for momentum trading days is 0.269% and significantly greater than the
-0.465% mean daily return for non-momentum trading days. Conversely, when equities and bonds are tested,
we find no momentum trading effect. We believe the momentum trading effect in the real estate fund is a
function of its underlying assets of real estate properties. The market values of the properties are determined
at four discrete times a year by independent third party appraisers rather than daily market prices. Because
the underlying assets, real estate properties, are reevaluated much more slowly than publicly traded stocks and
bonds, the real estate fund is able to generate momentum trading benefits.
Momentum trading is typically perceived and based on price movements where the goal becomes “buy and
sell higher” versus the traditional investment adage of “buy low and sell high”. Stocks with momentum are
expected to exceed their moving averages and this is most commonly interpreted, in the most basic design,
as a “buy” signal. Momentum investors use a variety of different technical analysis measures for moving
averages based on their perception of the correct approach for the situation. There are two concerns with price
moving averages. The first concern is that price moving averages are not directly related to returns. This study
takes on a unique approach in the literature by utilizing return moving averages that more closely align with
traditional fundamentalist views of the risk-return relationship. The second concern is that price, and hence
price moving averages, do not convey the same relative information as returns and their associated return
moving averages. A narrowly moving stock price can move above or below the price moving average by $1
and it may convey little new information if the stock is trading at $400 or much more if the stock is trading at
$4. If any momentum statistic moves either above or below the momentum statistic moving average, then it
conveys the relative importance of that day’s new information. In the previous example, clearly a 0.25% move
for the $400 stock has much less informational content than a 25% move for the $4 stock. It is this study’s
contention that assets with return momentum will signal opportunities to generate returns that will exceed a
buy-and-hold strategy. The ability to find a momentum trading effect in a real estate fund would also reject the
Efficient Markets Hypothesis (Fama 1970).
I. Literature
Technical and fundamental analyses have been part of the practitioner environment with fundamental
analysis generally supported by scientific modeling. Levy (1967) showed that a portfolio of well-performing
stocks with relative price strength would continue to perform well whereas a portfolio of poor-performing
stocks would continue to perform poorly. This study showed that technical analysis generated benefits.
Fama (1970) helped push technical analysis into the background of the academe with his Efficient Markets
Hypothesis in its three forms: weak, semi-strong, and strong. The implication is that if the Efficient Markets
Hypothesis holds in all forms, then neither fundamental nor technical analysis is valuable. Yet, there continues

to be substantial financial resources that follow and utilize technical analysis techniques.
Fundamental analysis has been well established and formally went mainstream through the text publication
on value investing by Graham and Dodd (1934). The timing of this text with the Great Depression led a
country hungry to understand the economy to readily accept the model. Gordon and Shapiro (1956) followed
the fundamental approach with their dividend discount model. Burton Malkiel (1973) combined the Efficient
Markets Hypothesis works with fundamental analysis to show that stocks follow a random walk which implies
that investors would be best served to follow a well diversified approach and minimize all costs. Subsequent
research followed the Efficient Markets Hypothesis and generally supported Malkiel’s contention that low
cost index funds were the best approach for small investors. Brinson, Hood, and Beebower (1995) found
that 90 percent of the variation in a portfolio’s performance is explained by asset allocation which supports
that markets are generally efficient. However, investors are often irrational so prices may not represent the
fundamental underlying value and lead to pricing bubbles. In the 1990s and 2000s the financial markets
experienced an Internet bubble and a real estate bubble, respectively. Both bubbles ultimately popped resulting
in large price declines in their corresponding asset markets. Technical analysis has not disappeared under this
fundamental push, but has actually flourished. The historical notion of human nature is to look for patterns
as a means of survival and it naturally evolved into the financial markets. The more modern elements were
pushed by Charles Dow through a sequence of editorials whose tenets were later referred to as the Dow
Theory and involved a rotational approach to technical analysis. Levy (1967) clearly articulated that technical
analysis, via a relative strength model, showed companies with price strength had a tendency to stay strong six
months later. While this study was eye-opening, it did not have the traditional statistical analysis commonly
utilized in fundamental analysis research. Wilder (1978) and Appel (1979) helped technical analysis flourish
through their independent developments of the relative strength index (RSI) and moving average convergence/
divergence indicator (MACD), respectively.
Jegadeesh and Titman (1993) kicked the door of technical analysis wide open from an academic perspective.
They broke stocks into deciles based on actual performance during the period. The authors then purchased
securities in the best performing decile and shorted the worst performing decile to create a no-cost portfolio.
Deciles were created based on the preceding one to four quarters and then evaluated thereafter for one to four
quarters over the 1965-1989 period. The authors found that momentum in stocks continued and generated a
significantly positive return. The consistency of these findings clearly violates the Efficient Markets Hypothesis,
but requires investors to frequently adjust the individual holdings in their portfolios.
Grinblatt, Titman, and Wermers (1995) and Wermers (1999) followed by showing evidence of herding
behavior among mutual fund managers as these managers were following their own momentum strategies
with the former finding that 77 percent of funds showed momentum behavior in their portfolio selections.
Malkiel (2003) demonstrated that individuals are behaviorally drawn to engage in market activities that are
performing above average causing stocks to overreact to positive news and to underreact to negative news
which generates the momentum. Balsera, Chen, Zheng (2009) found the technical indicator of the moving
average fails to outperform a buy-and-hold strategy, but a contrarian approach significantly outperforms the
buy-and-hold strategy using the major U.S. indices. Bettman, Sault, and Schultz (2009) combined fundamental
and technical analysis to generate stronger explanatory power of the return model through the R-squared
measure. Kirkpatrick and Dahlquist (2010) provide a thorough summary and discussion of technical analysis
methods including trend analysis along with traditional moving averages upon which many elements of
technical analysis utilize.
II. Hypothesis Development
Real estate funds operate much differently than equity funds and bond funds. An equity fund consists

of a portfolio of stocks that are generally publicly traded with market values more readily established on
a daily basis. However, a real estate fund includes a portfolio of real estate assets, such as shopping malls
and office buildings. These individual real estate assets are not highly liquid and their market values are
not easily established on a daily basis. For example, real estate assets in the TIAA Real Estate Account are
appraised each quarter by independent third party appraisers. Given the large number of real estate assets in
the portfolio, appraisals are continually received by the portfolio managers and then used to help determine
the overall portfolio value and the daily unit value of the TIAA Real Estate Account.
We expect to find a momentum trading effect in real estate funds because the underlying assets, real estate
properties, are repriced only four discrete times each year. When the real estate market experiences a downturn
or upturn, this will be reflected in the quarterly appraisals. Assume the real estate fund holds 100 real estate
properties and real estate prices have declined. Assuming around 50 business trading days per quarter, the
manager would be reviewing on average two appraisals per day. If we see a consistent directional change in
34 valuations the first month, then we would reasonably expect the remaining 66 appraisals will follow in
the same general direction. In a significant real estate market decline, the first appraisals received will show
significantly lower market valuations and result in return declines. While the manager may be expecting the
subsequent appraisals to also show lower market values, the manager must wait for the appraisals before the
fund’s market value is adjusted. The critical point here is that there must be sufficient information flowing
out over a period of time to really assess if the information contained in the returns is really fundamentally
a longer-term directional change. More fundamentally, leased space will not be coming up for renewal or
adjustment quickly. As such, it may take several appraisals before the market value reaches a new equilibrium.
Six months represents all of the assets having gone through two appraisal cycles. This period is sufficiently
long enough to represent a short-term change, but also to indicate a more fundamental reevaluation of the
underlying assets in the real estate markets.
Meanwhile, the return moving averages will show a momentum trading effect so the investor will move out
of the declining real estate fund before all of the information has been captured by the property appraisals in
their valuation estimates and subsequently on the fund value. Likewise, when real estate prices rebound the
return moving averages will show a momentum trading effect so the investor will move into the real estate
fund before all the appraisals have been received and the price increased. The challenge is determining when
to switch back and forth with a mechanism that does not create excessive trading. Many investment funds
will limit “trading” or movement between their funds. For example, the TIAA Real Estate Account limits
exchanges out of the account to once per quarter. While we expect to find a momentum trading effect in real
estate funds, we do not expect to find a momentum trading effect in equity funds and bond funds because the
market values of the underlying assets, stocks and bonds, are generally established daily.
III. Data and Methodology
The nature of many technical analysis studies have shown that technical trading rules effectively generate
returns when transaction costs are excluded, but are ineffective when transaction costs are included. Our
objective is to determine if it is possible to identify a momentum trading effect that can be used to outperform
a traditional buy-and-hold approach without engaging in excessive trading, without generating direct trading
costs, and limiting indirect trading costs. As such, our objective is to be invested when a market is generally
moving higher with strong return momentum and staying in a safer cash (money market) account if the
market is showing negative return momentum. This methodology might be considered longer-term by those
technicians employing intra-day trading methodologies.
A. Data
We utilize a specific category of fund management through TIAA-CREF variable annuity accounts. Our

data includes a real estate account, an equity index account, a bond market account, and a money market
account. Table I provides a summary of the accounts and their inception dates, asset sizes, expense charges,
and investment categories. These accounts are used because they: (i) represent retirement accounts via variable
annuities which should reduce trading by the fund; (ii) represent a selection of fund options in traditional
investment plans; and (iii) allow investors to move funds between the accounts with some limitations.1 We
obtain daily data for January 1, 1992 (or inception date) to September 15, 2010 from TIAA-CREF’s website,
http://www.tiaa-cref.org/public/performance/retirement/data/index.html.
B. Moving Averages
While previous researchers have used many moving average lengths, most moving averages have fallen in
the 5-day to 180-day range with a variety of weighting methodologies from equally to exponentially weighted.
We use three unique return moving averages of 5-, 30-, and 180-days. The 5-day window gives us roughly
a one week window into the very short-term momentum of the fund; the intermediate length 30-day return
moving average represents a one month window that captures a longer directional trend; and the 180-day
period captures two full appraisal cycles and is analogous to Levy’s (1967) 26-week period. Following Balsara,
Chen, Zheng (2009) we use the longer 180-day return moving average to capture long-term information and
informational content similar to a quarterly moving average, but believe that the short and intermediate terms
also convey information that can be readily captured in the period return moving averages.
Daily returns for each calendar day were calculated from TIAA’s daily unit prices with non-trading day unit
prices set equal to the last trading day’s unit price. To generate moving averages, we calculate the geometric
mean daily return for 5 calendar days (5GR), 30 calendar days (30GR), and 180 calendar days (180GR).
We then create a historical benchmark comparison utilizing 1,300 calendar days or approximately 43
months. The period length is long enough to generate a benchmark that would change very slowly and would
match a typical business cycle. Watson (1994) indicates that postwar business cycles have averaged just less
than 50 months versus slightly more than the average prewar business cycle of 25 months. Our period of 43
months was chosen as an approximate interim length leaning slightly towards recent trends. In addition, this
3 ½-year window provides a strong baseline moving average estimate that is not overly influenced by shorter
informational impacts and reduce trading. We then calculate return moving averages for 5 days, 30 days and
180 days as follows:
Where 5MA is the 5-day return moving average and 5GRt is the geometric mean daily return for 5 days.
Where 30MA is the 30-day return moving average and 30GRt is the geometric mean daily return for 30 days.

Where 180MA is the 180-day return moving average and 180GRt is the geometric mean daily return for
180 days. The result of this approach is that it takes 181 closing prices to generate the first 180GR and 1,300
calculations of the 180GR before we can compute the 180MA statistic. Thus, 1,480 days are needed to compute
the 180MA.
C. Momentum Statistics
We create momentum statistics by comparing the geometric mean daily return to the return moving average
as follows:
Where MS5 is the 5-day momentum statistic with a value of one when the geometric mean daily return
for the past 5 days (5GR) is greater than the 5-day return moving average (5MA), and otherwise the value is
zero. A positive indicator on the real estate account, for example, implies that the real estate fund is seeing
acceleration in the positive information from the appraisals of the underlying properties. Unfortunately, this
is too short to be relied on to make a trading decision when so many more appraisals are forthcoming and the
investor is limited in trading activity.
for the past 30 days (30GR) is greater than the 30-day return moving average (30MA), and otherwise the value
is zero. A positive indicator on the real estate account with this statistic indicates that over the past month the
appraisals have been coming in at a higher rate than expected with about one-third of appraisals completed. A
reasonable person might expect that this trend would continue.
for the past 180 days (180GR) is greater than the 180-day return moving average (180MA), and otherwise the
value is zero. In this situation we have gone through two complete cycles of appraisals within the real estate
account. The long-term trend is clearly very positive that appraisals are continuing to represent a return that
is above the historical norm.
The sum of the momentum statistics (5-days, 30-days, and 180-days) equals the total momentum statistic
as follows:
Where TMS is the total momentum statistic and may equal values of 3, 2, 1, or 0. When the TMS equals
3, this is an initial BUY signal where the investor would move funds into the corresponding equity, bond, or
real estate accounts. When the TMS equals 0, this is an initial SELL signal where the investor would move
funds into the money market account. When the TMS equals 1 or 2, this represents a HOLD signal where the
investor moves no funds.
Let us briefly think about what a BUY signal means in regards to the real estate account. The investor in
this situation is seeing that returns have accelerated above their historical moving average in the short-term,
intermediate and longer-terms. The implication is that the information content here is that over the last 6

months the appraisals have been coming in high enough to drive returns above the historical levels. This is
occurring over the last month meaning that they have maintained that strength over that period and even the
most recent week is above its historical average. An investor in this case is seeing a strong overall signal that
utilizing one of the limited numbers of trades within the account is worthwhile at this point with an expected
positive impact on the future earning potential for investors. A SELL signal would be the opposite and a
HOLD implies we are getting some mixed long-term signals and we should just wait until we get a more
definitive direction.
To minimize trading and avoid TIAA penalties for excessive trading, we add a floor metric for each fund. If
the fund’s initial purchase price is $100 per unit, then the floor metric begins at $100. The fund’s floor metric is
then reset to the new closing price (typically upward by at least 10% when: (i) the TMS reaches another BUY
signal and (ii) the fund’s unit price has risen by more than 10%. Thus, the fund’s unit price would need to move
significantly to generate a change in the floor metric. When the fund’s unit prices are falling, the floor metric
becomes germane in a decision to move out of the fund and into the money market fund. Funds are switched
into the money market fund only if: (i) there is a SELL signal and (ii) the fund’s unit price has fallen 10%
below the floor metric. If the fund is down only 8% when a sell signal occurs, we will not move into the money
market fund even though it may be an early indicator of a downturn. The floor metric is akin to the adage of
let your profits run and cut your losses short. This choice of 10% is designed to significantly curtail the BUY
and SELL activities. It is entirely reasonable to reduce this if one is willing to move in and out of different real
estate accounts depending on the restrictions imposed. Within the constraints of our data set we felt the 10%
movement was appropriate to stay with this single real estate account.
D. Momentum Trading Effect
The momentum statistics have been used to determine when investors should move funds into or out of
the equity, bond, or real estate accounts. Those days when funds are invested in the money market account
are defined as non-momentum trading days. Those days when funds are invested in the equity account, bond
account, or real estate account are classified as momentum trading days. We test the hypothesis that the
difference between non-momentum trading returns and momentum trading returns is zero by estimating the
following regression for the equity account, bond account, and real estate account:
Where Rt is the return on the account for day t, α is the intercept representing the arithmetic mean return
for the non-momentum trading days, β is the difference between the mean return for momentum trading days
and mean return for non-momentum trading days, DTMP is a dummy variable (1 = momentum trading day, 0 =
non-momentum trading day) and εt is the error term. The F-value tests whether the difference between mean
return for momentum trading days and mean return for non-momentum trading days is significantly different
from zero.
The intuition behind the regression model is very straight forward. A negative α coefficient would indicate
the model has identified non-momentum trading days that, on average, generate a negative return. A significant
t-statistic associated with the α coefficient indicates the negative mean return for the non-momentum trading
days in the real estate account is significantly different than a mean expected return of zero. A positive β
coefficient would indicate the model has identified the real estate account’s momentum trading days generate
a greater return than the non-momentum trading days. A significant t-statistic on the β coefficient would
indicate the mean return for momentum trading days is significantly greater than the mean return of the non-
momentum trading days. If the F-test is significant, then this indicates the regression model is statistically
robust and highly unlikely to have occurred by chance.

IV. Results
We examine the returns of the Equity Index Account, Bond Market Account, and Real Estate Account.
Table II shows the arithmetic mean daily returns and standard deviation for the three TIAA-CREF accounts
during the: (i) entire time period, (ii) the momentum trading days, and (iii) the non-momentum trading days.
While we find the mean daily returns to be similar for the Equity Index Account and Bond Market Account,
we find the mean daily returns to be quite different for the Real Estate Account. More specifically, we find the
Real Estate Account has a mean daily return of 0.027% for the momentum trading days versus a -0.046% for
the non-momentum trading days. Additionally, we find the Real Estate Account’s momentum trading days
not only have a higher mean daily return than the non-momentum trading days, but also a smaller standard
deviation at 0.11% versus 0.25% for the non-momentum trading days.
To test for a momentum trading effect, we estimate the regression model in Equation 8 to test whether the
difference between mean momentum trading return and mean momentum non-trading return is significantly
different from zero. The results of the regression are reported in Table III. When we analyze the Real Estate
Account we find a significant difference between the mean daily return for the momentum trading days and
non-momentum trading days. We find the difference between the mean daily returns of the momentum trading
days and the non-momentum trading days to be 0.073% which is significant at the one percent level. To the
average investor, this means that with minimal trading you can increase your daily return by 4.65 basis points
by being out of the account when one expects it to decline in value. Over the course of an entire trading year
you can improve your performance, on average, by over 2% without incurring any additional trading expenses.
Note that our evaluation window covers over a decade and this can have a significant impact on your overall
performance as an investor. You may also note that the equity account shows a similar benefit but it is not
considered significant. Equities have a much more volatile pricing regime meaning that the returns have a much
greater standard deviation, almost eight times greater, and that the result in equities could have reasonably
occurred by chance. With the real estate appraisal process the pricing changes occur much slower resulting in
a much smaller underlying volatility and making it highly improbable that these results could occur by chance.
As such, the regression model clearly shows there is a momentum trading effect in the Real Estate Account.
As expected, the Equity Index and Bond Market Accounts show no momentum trading effects as there are no
significant differences between the mean daily returns of the momentum and non-momentum trading days. In
other words, the β coefficients are not statistically different enough from 0 to be considered significant.

V. Summary Statement
We have developed a technical analysis model which can be applied to real estate funds to create a
momentum trading approach that outperforms a traditional buy-and-hold approach. Our model identifies
when investors should be invested in real estate funds versus money market funds. We believe the success of
momentum trading in real estate funds is a function of the underlying assets of real estate properties, whose
market values are not determined daily, but with quarterly appraisals completed by independent third party
appraisers. Thus, the need to quickly move in and out real estate accounts is not as critical to investors as it
is with stocks and bonds. The technical trading model employs a momentum statistic constructed from three
return moving averages along with a floor metric to avoid excessive trading in and out of the funds. Using
regression analysis we find a strong momentum trading effect in the real estate fund where the mean daily
return using the momentum trading strategy is 0.0734% higher than for the non-momentum trading strategy.
Endnotes
According to the prospectus for the TIAA Real Estate Account, TIAA limits trading to a single move out of
the account once per quarter via a telephone conversation with a firm advisor. According to the prospectus for
the CREF accounts, with the exception of money market, CREF limits the participants from going out-in-out
of the fund within a 60-day window. If the participants violate this restriction, then they are precluded from
making moves for 90 days. Note that this excludes transfers via mail. Therefore, mail requests are honored
without restriction as indicated above.
References
Appel, Gerald, 1979, The Moving Average Convergence-Divergence Method, Signalert Corporation, Great
Neck, NY.
Balsara, Nauzer, Jason Chen, and Lin Zheng, 2009, Profiting From A Contrarian Application of Technical Trading
Rules in the U.S. Stock Market, Journal of Asset Management 10, 97-123.
Bettman, Jenni L., Stephen J. Sault, and Emma L. Schultz, 2009, Fundamental and Technical Analysis: Substitutes
or Complements?, Accounting and Finance 49, 21-36.
Brinson, Gary P., L. Randolph Hood, and Gilbert L. Beebower, 1995, Determinants of Portfolio Performance,
Financial Analysts Journal 51, 133-138.
Fama, Eugene F., 1970, Efficient Capital Markets: A Review of Theory and Empirical Work,
Journal of Finance 25, 383-417.
Gordon, Myron J. and Eli Shapiro, 1956, Capital Equipment Analysis: The Required Rate of Profit,
Management Science 3, 102-110.
Graham, Benjamin and David L. Dodd, 1934, Security Analysis, McGraw-Hill Book Company, New York, NY.
Grinblatt, Mark, Sheridan Titman, and Russ Wermers, 1995, Momentum Investment Strategies, Portfolio
Performance, and Herding: A Study of Mutual Fund Behavior, American Economic Review 85, 1088-1105.
Jegadeesh, Narasimhan and Sheridan Titman, 1993, Returns to Buying Winners and Selling Losers,
Journal of Finance 48, 65-91.
Kirkpatrick, Charles. D. and Julie R. Dahlquist, 2010, Technical Analysis: The Complete Resource for Financial
Market Technicans, FT Press, Upper Saddle River, NJ.

References
Levy, Robert A., 1967, Relative Strength as a Criterion for Investment Selection, Journal of Finance 22, 595-610.
Malkiel, Burton G., 1973, A Random Walk Down Wall Street: The Time-tested Strategy for Successful Investing,
W.W. Norton, New York, NY.
Malkiel, Burton G., 2003, The Efficient Market Hypothesis and Its Critics, Journal of Economic Perspectives 17,
59-82.
Sortino, Frank A. and Robert van der Meer, 1991, Downside Risk, Journal of Portfolio Management 17, 27-31.
Watson, Mark W., 1994, Business-Cycle Durations and Postwar Stabilization of the U.S. Economy,
American Economic Review 84, 24-46.
Wermers, Russ, 1999, Mutual Fund Herding and the Impact on Stock Prices, Journal of Finance 54, 581-622.
Wilder, J. Welles, 1978, New Concepts in Technical Trading Systems, Trend Research, Greensboro, NC.
About the Authors
Robert A. Kunkel, Ph.D.

Gregory A. Kuhlemeyer, Ph.D., Chair
Professor of Finance
Associate Professor of Business
College of Business
Carroll University
University of Wisconsin Oshkosh

A Synthesis of Technical Analysis and Fractal Geometry:
3
Evidence from the Components of the
Dow Jones Industrial Average
Camillo Lento, PhD, CA, CFE
Abstract
This study develops new insights into the profitability of trading rules through a synthesis of fractal geometry
and technical analysis. The Hurst exponent (H) emerged from fractal geometry as a means of detecting long-
term dependencies in a time series, the same dependencies that technical analysis should be able to identify and
exploit to earn profits. Two tests of this synthesis are conducted. First, financial time series are classified into
three groups based on their H to determine if a higher (lower) H results in higher returns to trending (contrarian)
trading rules. Second, the relationship between H and profits from technical analysis are estimated through OLS
regression. Both tests suggest that the fractal nature of a time series explains a significant portion of the profits
from technical analysis.
I. Introduction
Technical analysis is a broad discipline that analyzes past price and volume data to identify patterns that
predict future price movements. Identified patterns provide the basis for technical trading rules, which generate
buy and sell signals. The efficacy of technical analysis has been researched extensively. The research results are
mixed, providing support for (e.g., Brock, Lakonishok and LeBaron (1992), and Gençay (1999)), and against
(e.g. Allen and Karjalainen (1999), Lo, Mamaysky and Wang (2000), and Bokhardi et al. (2005)) technical
analysis’ ability to forecast security returns.
Recently, Hurst’s exponent (H) (Hurst, 1951) has emerged from fractal geometry into economics research
as a means of classifying a time series based on its long-term dependencies (Peters, 1991 and Peters, 1994). A
value of H of 0.50 indicates that a series exhibits Brownian motion.1 0<H<0.5 indicates an anti-persistent series,
suggesting that the data set exhibits mean-reverting tendencies. 0.5<H<1 indicates a persistent series, suggesting
the data is trend reinforcing. The strength of the trend increases as H approaches 1. The H thus provides a method
of classifying time series, which may be beneficial for the discipline of technical analysis.
The purpose of this study is to develop new insights into the discipline of technical analysis through a synthesis
with fractal geometry. The synthesis posits the following: fractal geometry provides a technique (H) that detects
long-term dependencies (reinforcing or reverting trends) in the historical price data of a time series; these are the
same trends that technical analysis purports to identify and utilize to predict future price movements. Therefore,
trending trading rules should be more effective on trend-reinforcing time series, while contrarian trading rules
should be more effective in anti-persistent, or mean-reverting, markets.
It is important to note that the discipline of technical analysis includes various technical trading rules. In
addition, the technical trading rules can be specified differently, leading to a large number of trading rule variants.
Accordingly, popular trending and contrarian rules will be used to test the synthesis. Specifically, trending
Acknowledgements: The author would like to thank the anonymous reviewers for their comments that helped improve
this manuscript.
1
Brownian motion is a mathematical concept used to describe a random process.

trading rules will be represented by the filter rule, moving average crossover rule, and the trading range breakout
rule, while contrarian trading rules will be represented by the Bollinger Band. In addition, the effectiveness of
the technical trading rules is defined as the profits generated from the technical trading rule’s buy and sell signals.
Two empirical tests are conducted to evaluate the synthesis and the resulting relationship between H and
profits from technical analysis. First, the financial series are classified into three groups based on their H value
(H<0.5; 0.5<H<0.55; H>0.55) to determine if time series having a higher (lower) value H result in higher profits
to trending (contrarian) trading rules. Second, OLS regression is used to estimate the relationship between H and
profits from trending and contrarian trading rules.
The results suggest that the H is able to identify long-term dependencies in a time series and that these time
series result in higher profits to technical trading rules. The classification analysis reveals that profits from
trending trading rules are higher (average of 11%) for time series that exhibit long-term dependencies (high H)
and lower (average of -16.8%) for time series that exhibit anti-persistent trends. The regression analysis results
in a significant R2 of 0.31, revealing that the fractal nature of a time series explains a significant portion of the
profits from technical trading rules. The results are consistent with the theory presented by the synthesis.
This study makes a significant contribution to the literature from both a theoretical and empirical perspective
as this is the first known study to merge the disciplines of technical analysis and fractal geometry. The extant
literature that investigates the fractal nature of financial data seeks only to determine market predictability (e.g.
Qian and Rasheed, 2004, Corazza and Malliaris, 2002). This study extends the literature by investigating whether
technical trading rules can exploit a time-series’s predictability to generate profits. The results reveal that the
fractal nature of a time-series is related to the profitability of different types of trading rules (i.e., trending versus
contrarian). Additionally, the results suggests that an investor, who understands the fractal nature of a time-
series, should alter their investment strategy by employing a contrarian trading rule on time-series that exhibits
anti-persistence and a trending trading rule on time-series that exhibit long-term dependencies.
The remainder of the paper is organized as follows: Section II provides a review of the literature and develops
the synthesis and hypotheses, Section III describes the data, Section IV discusses the methodology, Section V
presents the results, and Section VI offers concluding thoughts.
II. Theory and Hypothesis Development
A synthesis of technical analysis and fractal geometry can provide fertile ground for new theory development,
along with novel empirical tests, to enhance our understanding of the profitability of technical trading rules. The
following literature review develops this synthesis. Section A discusses the technical analysis literature, Section
B discusses fractal geometry, and Section C develops the synthesis and Hypotheses.
A.Technical Trading Rules
Early studies on technical analysis conducted by Alexander (1961 and 1964) and Fama and Blume (1966)
suggested that excess returns cannot be realized by making investment decisions based on filter rules. However,
Sweeney (1988) re-examined the data used by Fama and Blume (1966) and found that filter rules applied to
15 of the 30 Dow Jones stocks earned excess returns over buy-and-hold alternatives. Technical trading rules
have also been extensively tested in the foreign exchange market (Dooley and Shafer (1983), Sweeney (1988),
and Schulmeister (1988)).
The number of studies on technical trading rules significantly increased during the 1990s. Some of the most
influential studies that provide indirect support for trading rules include Jegadeesh and Titman (1993), Blume,
Easley, and O’Hara (1994), Chan, Jagadeesh, and Lakonishok (1996), Lo and MacKinlay (1997), Grundy and
Martin (1998), and Rouwenhorst (1998). Stronger evidence can be found in the research of Neftci (1991), Neely,

Weller, and Dittmar (1997), Chang and Osler (1994), Osler and Chang (1995), Lo and MacKinlay (1997), and
Neely and Weller (1998). One of the most influential studies on technical analysis is that prepared by Brock,
Lakonishok, and LeBaron (1992) who used bootstrapping techniques and two simple, yet popular, trading rules
to reveal strong evidence in support of the predictive nature of technical analysis.
However, not all studies support the efficacy of technical analysis. For example, Allen and Karjalainen (1999)
found no evidence that the rules were able to earn economically significant excess returns over a buy-and-hold
strategy during the period 1970 – 1989. Furthermore, Lo, Mamaysky and Wang (2000) found that certain
technical patterns can provide information when applied to a large number of stocks; however, the results do
not imply that technical analysis can be used to generate excess trading profits. Finally, Bokhardi et al. (2005)
investigated the effectiveness of simple trading rules and concluded that trading rules cannot be used profitably
after adjusting for transaction costs.
B. Fractal Geometry
Fractal geometry has recently emerged into the world of mathematics as a complement to Euclidean geometry
as an attempt to better explain and describe the objects and shapes of the real world. In the 1960s, Benoit
Mandelbrot believed that Brownian motion2 was not an adequate statistical description of the true stochastic
process generating securities returns. To resolve this inadequacy, Mandelbrot worked in two perpendicular
directions. One direction involved relaxing a Brownian motion assumption of finite variance, which introduces
what Mandelbrot termed the “Noah Effect.” The other direction entailed relaxing an independence assumption,
thereby allowing for a “Joseph Effect.” (Mandelbrot, 1972). The Noah Effect (recalling the Biblical account
of the great deluge) refers to the tendency of various time series with presumably independent increments,
especially speculative time series, to exhibit abrupt and discontinuous changes.
The Joseph Effect is named after the biblical story in which Joseph prophesied that the residents of Egypt
would face seven years of feast followed by seven years of famine (Mandelbrot, 2004)3. The Joseph effect
denotes the property of certain time series exhibiting persistent behavior (such as years of flooding followed
by years of drought along the Nile River basin) more frequently than would be expected if the series were
completely random but without exhibiting any significant short-term (Markovian) dependence. To describe such
processes, Mandelbrot broadened the idea of Brownian motion into the class of stochastic processes called
“fractional” Brownian motion (fBm).
A fractal time series is statistically self-similar regardless of the time frame over which the increments of
the series are observed, aside from its scale. For example, a time series of daily, weekly, monthly, or yearly
observations would exhibit similar statistical characteristics. Schroeder (1991) notes that the paradigm of
random fractals can be described as Brownian motion, that is, a white-noise process, that exhibits these scaling
time-series properties.
Fractional Brownian motions exhibit complicated long-term dependencies that can be characterized by the
Hurst exponent (H). Mandelbrot developed a statistical technique called rescaled range analysis to measure
the Hurst exponent, which generally ranges from 0 to 1 (Hurst et al., 1965)4. If 0.5<H<1, the series will exhibit
2
Brownian motion is a well-known paradigm in finance that can be described as a white-noise process for which the
independent increments are identically normally distributed. A white-noise process is the statistical paradigm against
which the sequence of increments from a chaotic dynamical process is typically contrasted. White noise traditionally
refers to a sequence whose increments are independently and identically distributed with zero mean and finite variance.
Brownian motion underlies most of modern finance theory’s most important contributions.
3
Mandelbrot (2004) provides a detailed history and discussion of the Hurst exponent, the Joseph effect, and Noah effect.
4
Additionally, the power spectrum of the increments of fractional Brownian motion is proportional to fβ,
where β= 2H-1, so that Brownian motion as a white-noise paradigm has a flat spectrum (Feder, 1988).

persistence, with fewer reversals and longer trends than the increments of Brownian motion. In this case, the
graph would appear smoother than that of a random walk. On the other hand, if 0<H<0.5, then the series will
exhibit anti-persistence, as evidenced by a greater number of reversals and fewer and shorter trends than in a
white-noise series.
The vast majority of the research that investigates the Hurst exponent in financial market seeks to determine
whether H can identify the predictability of the financial market (e.g., Corazza and Malliaris (2002) and Glenn
(2007)). For example, Greene and Fielitz (1977) used the rescaled range analysis and found considerable
evidence of temporal dependence in daily stock returns for the period December 23, 1963 to November 29,
1968, after accounting for short-term linear dependencies (autocorrelation) within the data. The most popular
example is by Peters (1991), who estimates the Hurst exponent to be 0.778 for monthly returns on the S&P 500
from January 1950 to July 1988.
More recently, research has shifted to using the H as part of an investment strategy. For example, Hodges
(2006) and Bender et al. (2006) began investigating the possibility of developing portfolios based on identifiable
long-term dependencies. Hodges (2006) examined an investor’s ability to form arbitrage portfolios under realistic
transactions costs for values of H very different from 0.5. Bender et al. (2006) seeked to develop a general
theory of arbitrage portfolio building based on long-term dependent processes. However, neither of these papers
specifically focused on investigating the efficacy of technical analysis in light of long-term dependencies.
The research on the H in financial settings has yet to incorporate any elements from the discipline of technical
analysis. Specifically, the current body of literature does not use technical analysis to build on the identification
of financial market predictability to determine whether profits can be generated after accounting for transaction
costs.
C. A Synthesis of Technical Analysis and Fractal Geometry
The extant body of literature provides inconclusive evidence on the profitability of technical trading rules.
Furthermore, the literature on the fractal nature of financial markets appears to stop once dependencies have been
identified or refuted. New insights into technical analysis can be obtained by extending the literature through a
synthesis of fractal geometry and technical analysis.
Technical trading rules are based on the premise that time series exhibit certain patterns in their past data that
can be used to predict future movements. It can therefore be deduced that trending technical trading rules (e.g.,
filter rule, break-out, and moving average rules) should be more profitable on time series that exhibit long-term
dependencies. Conversely, time series that are anti-persistent should not provide returns to trending trading
rules, as there are no continuing patterns in the time series to identify and exploit. The H can be used to identify
the dynamic processes of a time series. Therefore, based on this synthesis, identifying the dependencies in a
time-series’ motion should be able to partially explain the inconsistent and conflicting results evident in the
extant body of literature. The synthesis of fractal geometry and technical analysis provides the first hypothesis:
H1: The profitability of trending technical trading rules should be higher with time series that
have higher Hurst exponents and lower with time series that have lower Hurst exponents.
As opposed to trending technical trading rules, investors may employ a contrarian trading rule. A contrarian
rule attempts to exploit a reversal pattern in a time series and essentially sells into strength (expectation of
price decline after an increase) and buys into weakness (expectation of a price increase after a decrease). It can
therefore be deduced that contrarian technical trading rules should be more profitable on time series that exhibit
anti-persistence. Conversely, time series that are persistent should not provide as profitable results as those
brought by contrarian technical trading rules, as there are no continuing reversal patterns in the time series to
identify and exploit. This reasoning leads to the second hypothesis:

H2: The profitability of contrarian trading rules should be higher with time series that have
lower Hurst exponents and lower with time series that have higher Hurst exponents.
Hypotheses 1 and 2 investigate the relationship between H and the profits from trending and contrarian
technical trading rules; however, accepting the hypotheses does not suggest that investors can successfully utilize
technical analysis to earn abnormal profits by understanding the fractal nature of a time-series because both H
and profits will be calculated on the same dataset. Therefore, an additional hypothesis, with a different test, is
required to understand whether traders can successfully employ a trading strategy that uses an observed H to
correctly employ a trading rule.
H3: The lagged H (Ht-1 ) can predict whether a contrarian or trending trading rule will be
profitable for a time series.
Testing the first three hypotheses will make a significant contribution, as there are no other known studies that
test the relationship between profits from technical analysis and long-term dependencies.
Aside from the main hypotheses, an ancillary hypothesis will be tested. Recall that a fractal characteristic is
that it should be statistically self-similar regardless of the time frame over which the increments of the series
are observed. There is very little empirical evidence on the effectiveness of the trading rules at various scales
(e.g., daily, weekly, monthly). Brownian motion suggests that independent increments are identically normally
distributed, whereas pure fractal Brownian motion suggests that a time series is statistically “self-similar” (apart
from scale) regardless of the time frame over which the increments of the series are observed. There is a vast
amount of literature that discusses the non-normality and lack of Brownian motion of stock returns (Cootner
1964, Fama 1965, Officer 1972). If the stock returns exhibit the characteristics of a fractal time series, rather
than Brownian motion, there should be no difference in the effectiveness of technical trading rules with data at
different scales. This leads to the development of the fourth hypothesis:
H4: There is no difference between the profitability of technical trading rules on the same data
set when calculated for different time scales.
III. The Data
H and the profits from the trading rules are calculated for all 30 DJIA stocks (as of July 2008) for the 10-year
period of July 1998 to July 2008. The time period was selected as it provides enough data to calculate both the
H and the technical trading rules and ends just prior to the 2008 credit crisis. As the data set includes many
differing events (e.g., Long-Term Capital Management issues and the Asian crisis in the late 90s, dot-com bubble
in early 2000s, etc.), sub-period analysis is conducted to determine the sensitivity of the results to the time period
selected.
Trading rules can be calculated at various data frequencies. The data frequency selected depends on different
factors and preferences. This study utilizes daily and weekly data. Daily data is used because a typical off
floor trader will most likely use daily data (Kaastra and Boyd, 1996). Furthermore, intraday time series can be
extremely noisy. Along these lines, weekly data is also used as it is readily available to all traders.
The use of raw daily price data in the stock market has many problems, as movements are generally non-
stationary (Mehta, 1995), which interferes with the estimation of the H. The market-index series are transformed
into rates of return to overcome these problems. Given the price level P1, P2, … Pt, the rate of return at time t
is transformed by:

where pt denotes the spot price (stock market indices or the exchange rate). The descriptive statistics for the 30
DJIA components are presented in Table 1.
Table 1 - Sample data and descriptive statistics (July 22, 1998 to July 22, 2008)
IV. Methodology
The individual and average profits from 12 trading rules, along with H, are calculated for all 30 stocks.
Profitability is defined as the returns from the trading rules less the buy-and-hold strategy returns, adjusted for
transaction costs. Therefore, by definition, profits can also be negative.
A.Trading rules
The trending trading rules are the moving-average crossover rule (MACO), the filter rule, and the trading
range break-out rule (TRBO). A MACO rule attempts to identify a trend by comparing a short moving average
to a long moving average. The MACO generates a buy (sell) signal whenever the short moving average is above
(below) the long moving average. This study tests the MACO rule based on the following signals:

where Ri,t is the log return given the short period of S, and Ri,t-1 is the log return over the long period L. The
following short-long combinations will be tested: (1, 50), (1, 200) and (5, 150). The same MACO rules were
tested in the seminal study by Brock, Lakonishok, and LeBaron (1992).
Filter rules generate signals based on the following logic: buy when the price rises by ƒ percent above the
most recent trough and sell when the price falls ƒ percent below its most recent peak. This study tests the filter
rule based on three parameters: 1%, 2%, and 5%, which is consistent with many seminal, prior studies (e.g., (e.g.,
Brock, Lakonishok and LeBaron (1992)).
The TRBO generates a buy signal when the price breaks above the resistance level and a sell signal when the
price breaks below the support level. The resistance/support level is defined as the local maximum/minimum.
The TRBO rule is examined by calculating the local maximum and minimum based on 50, 150 and 200 days,
defined as follows:
where Pt is the stock price at time t. Again, these are the same TRBO rules tested by Brock, Lakonishok, and
LeBaron (1992). In order to maintain consistency, all of the contrarian trading rules are defined in the exact same
fashion as in Brock, Lakonishok, and LeBaron (1992).
The contrarian trading rule will be represented by a variant of the Bollinger Bands (BB). Bollinger Bands
are a tool that can be used in a variety of trading rules, not necessarily contrarian in nature. However, this study
will employ a contrarian strategy using Bollinger Bands in an attempt to profit from anti-persistent trends in
financial time-series. Bollinger Bands require two parameters: the moving average and the standard deviation.
Traditionally a 20-period moving average is used. The BB strategy tested will generate a sell signal when the
price of the security exceeds the 20-day moving average plus two standard deviations (i.e., the market is said to
be overbought). A buy signal is generated when the price of the security is less than the 20-day moving average
minus two standard deviations (i.e., the market is said to be oversold). This strategy is denoted by BB(20,
2). In addition to using the traditional parameters, two variants are tested: BB(30,2) uses a 30-day average
to determine whether information from longer time frame can generate more informative signals. BB(20,1)
uses the traditional 20-day moving average, but uses only +/-1 to generate signals to determine whether a
narrower band can generate more precise signals. These are the same BB parameters tested in prior literature
(e.g. Lento, Gradeojevic and Wright, 2007).
The statistical significance of the trading rules is determined through a bootstrapping methodology as developed
by Levich and Thomas (1993). The bootstrap approach does not make any assumptions regarding the distribution
of the generating function. Rather, the distribution of the generating function is determined empirically through
numerical simulations. The data sets of raw closing prices, with the length N + 1, correspond to a set of log price
changes of length N. M = N! separate sequences can be arranged from the log price changes with a length of
N. Each element of the sequence (m = 1, …, M) will correspond to a unique profit measure (X [m, r]) for each
variant trading rule (r for r = 1, … , R.) used in this study. Therefore, a new series can be generated by randomly
rearranging the log price changes of the original data set.
This simulation can generate one of the various notional paths that the security could have taken from time
t (original level) until time t + n (ending day). The simulation process of randomly mixing the log price returns

is repeated 10,000 times for each data set, resulting in 10,000 identically and independently distributed (i.i.d.)
representations from the m = 1 , … , M possible sequences. Each technical trading rule (MACO, filter rule, and
TRBO) is then applied to each of the random series, and the profits X[m, r] are measured. This process generates
an empirical distribution of the profits. The profits from the original data set are then compared to the profits from
the randomly generated data sets. If the profits resulting from the original data set are greater than the α-percent
threshold level of the empirical distribution, then the null hypothesis will be rejected at the α percent level.
B. The Hurst Exponent (H)
The basis of the rescaled range analysis was laid by Hurst et al. (1965). Mandelbrot and Wallis (1968, 1969a,
1969b, and 1971) examined and further elaborated the method. The following is a brief discussion of the
rescaled range analysis and the Hurst exponent calculation5.
The stochastic process of fractional Brownian motion (fBm) occurs when the second-order moments of the
increments scale as follows:
with H [0, 1]. The Brownian motion is then the particular case where H = 0.5. The exponent H is called the
Hurst exponent. The H measures dependencies in time series’ non-stochastic motion and is calculated through
rescaled range analysis (R/S analysis). For a time series where X = X1, X2, …, Xn, R/S analysis can be calculated
by first determining the mean value m, followed by the mean adjusted series Y:
The H can be estimated through ordinary least squares regression. Between Log(N) and Log (R/S).
Figure 1 graphically presents the rescaled range analysis that is used to estimate the Hurst exponent on the Dow
Jones Industrial Average time series.

Figure 1 – Rescaled Range Analysis Plot
The H has been estimated on all thirty Dow components. Table 2 presents the descriptive statistics for the H
calculated on all thirty time series.
Table 2 – H Statistic Descriptive Statistics
There are various scholars who rebut the ability of H to identify long-term dependencies by arguing that the
rescaled range analysis is skewed. Specifically, issues with the sensitivity of the H to short-term memory, the
effects of pre-asymptotic behavior on the significance of the H estimate and the problems with structural changes
(e.g., Ambrose et al. (1993), Chueng (1993), Jacobsen (1996)) have been raised. The most significant rebuttal
was offered by Lo (1991), who reports that the rescaled range analysis could confuse long-term memory with
the effects of short-term memory. However, since Lo’s publication, many economists have reported that his
tests were potentially flawed (Mandelbrot, 2004). Additionally, a number of new contributions have suggested
alternative techniques of estimating a pathwise version of H to eliminate the lack of reliability in the H (Bianci,
2005 and Carbone et al., 2004). Recently, Qian and Rasheed (2004) concluded that the H provides a measure for
predictability, especially for H that are larger than 0.50.

C. Testing the Synthesis
Two empirical tests are conducted to evaluate the synthesis. A classification test will group each DJIA
component based on its estimated H. Based on the descriptive statistics in Table 2, three groups have been
developed in order to capture differences in the H. Recall that H values below 0.5 suggest anti-dependence.
Therefore, one category will be defined as 0.5 >H. Ten of the thirty stocks, or one third of the sample, fall into
this category for both the daily and weekly observations. Time series with an H in excess of 0.5 suggest long-
term dependencies. Because 20 of the remaining 30 stocks have an H in excess of 0.5, time series with long
term dependencies are broken down into the following two components: 0.5 <H< 0.55; and 0.55 <H. A total
of 16 (ten) of the time series fall into the 0.5 <H< 0.55 category with the daily (weekly) observations, while the
remaining four (ten) time series fall into the 0.55 <H category. Additional sensitivity tests will be conducted
on the categories used for the analysis. The synthesis postulates that technical analysis should generate higher
profits for group three and lower profits for group one. A quasi-contingency table will present the average profits
for each group.
The second test uses OLS regression to estimate the statistical relation between profits from technical analysis
and H. To test whether data sets that exhibit higher H result in higher profits from technical analysis, the
following equation is estimated:
where Profitsi represents the returns in excess of the buy-and-hold trading strategy for DJIA component i, and Hi
represents the Hurst exponent for DJIA component i. The intercept is expected to be positive for Hypothesis 1
and negative for Hypothesis 2.
V. Results
A. Profits from Technical Analysis on the DJIA components
The profits from the technical trading rules and the H for each DJIA component are presented in Table 3 with
daily data and Table 4 with weekly data. Calculated with daily data, H ranges from a low of 0.452 to a high of
0.587. Weekly data result in a wider range of H (0.431 to 0.629).
The trending trading rules were profitable for 7 of the 30 components when calculated with daily data and on
13 of the 30 components with weekly data. It is interesting to note that the MACO and TRBO were much more
effective than the filter rules. The filter rules generated an average negative profit of 10.59% (daily) and 22.6%
(weekly). The filter rules’ poor performance is consistent with prior studies (Szakmary, Davidson, and Schwarz,
1999; Wong, C., 1997; Nelly and Weller, 1998).
The contrarian trading rules (BBs) generated average profits of 2.19%, 3.37%, and 2.52% for all 30 stocks
with daily data. The BBs generated profits on 23 of the 30 stocks with daily data. The results with weekly data
are more volatile, with average profits of 15.5%, 15.2%, and 17.0% from the trading rules, with only 21 of the
30 stocks being profitable.
B. Hurst Exponent and Profits from Trending Trading Rules (Hypotheses 1)
Hypothesis 1 postulates that stocks with higher H should yield higher profits from trending trading rules. To
test this relation, each DJIA component was grouped according to its H value. The first group includes stocks
with values of H less than 0.5. The second group includes stocks with a value of H that is greater than 0.5 but
less than 0.55. The final group is for stocks with a H greater than 0.55.

Table 3: Hurst exponent and technical trading rule profits with daily data (percentage)
Table 4: Hurst exponent and technical trading rule profits with weekly data (percentage)

Table 5 presents the results of the classification analysis in the form of a contingency table. Panel A presents
the results for the combined weekly and daily data, while Panel B and Panel C present the results for daily and
weekly data, respectively.
Table 5 - Returns to trending trading rules classified by H
The results provide strong evidence that profits from trending trading rules are partially explained by the long-
term dependencies, as identified by the H estimation. All three panels reveal that profits are lowest for stocks
with values of H that are less than 0.5 and increase in H. The trading rules earned returns of 11.5% in excess of
the buy-and-hold strategy for stocks with a value of H greater than 0.55, while technical analysis underperformed
by 16.7% for stocks with values of H less than 0.5.
The robustness of the results is tested though sub-period analysis. The H is estimated over three sub-periods
(n.b.: the sub-periods divide the data set into three equal periods) and the profits from the technical trading
rules are also calculated on the same sub-periods (untabulated). The results of the sub-period analysis for the
association between H and the profits generated by technical analysis are presented in Table 6. The sub-period
analysis confirms the robustness of the results in Table 5, as profits are higher for stocks that exhibit long-term
dependencies as identified by the H. Sub-periods 1 and 3 exhibit consistent patterns of increasing returns in
conjunction with increasing H; however, the weekly data on sub-period 2 do not reflect the synthesis.
These results are consistent with the synthesis and tend to corroborate the proposition that a value of H less
than 0.5 exhibits anti-persistent trends that limit trending trading rules’ ability to identify patterns, whereas time
series with a value of H greater than 0.55 exhibit persistent trends that are identified by the trending trading rules
to earn profits. However, the results partially explain, as opposed to completely explaining, the profits from the
trading rules because there are anomalies. For example, Pfizer’s weekly time series exhibited an anti-persistent
nature (H of 0.431), yet technical analysis was able to earn an average profit of 14.2%.
In addition to the sub-period analysis, additional sensitivity testing is conducted on the categories selected
for the analysis. The tables have been recalculated with only two categories: 0.5 >H and 0.5 <H. The results
(not presented) are the same as the main results in Table 5. In addition, the tables have been recalculated with
the following three categories: (1) 0.5 >H; (2)0.5 <H< 0.54; and (3) 0.54<H. This categorization results in 10
observations, or one-third, in each category. Again, the results (not presented) are the same as the main results
in Table 5. The results also hold with the following classification: 1) 0.5 >H; (2)0.5 <H< 0.52; and (3) 0.52<H.
Accordingly, the results are robust to the boundaries selected for the categories. Note that there are not enough

Table 6 - Returns to technical trading rules classified by H on sub-periods
observations in excess of H> 0.60 in order to create such a category.

Table 5 and Table 6 provide evidence to support Hypothesis 1; however, the classification system does not
offer the precision of statistical rigor. Therefore, additional tests of the relationship between the H and profits
from technical analysis are provided through regression analysis. The results of the regression of Equation 12 are
presented in Table 7. Panel A presents the estimation using average returns for all three trading rules as a proxy
for Profiti, while Panel B presents the results of the estimation using the average of each trading rule (MACO,
filter, and TRBO) as a proxy for Profiti.

Table 7 - Estimation results from regression of profits from trending trading rules on H.
The results are consistent with and corroborate the results presented in Tables 4 and 6, and further support the
synthesis in Hypothesis 1: H is able to identify long-term dependencies in time series data that are exploited by
technical trading rules to generate profits. The estimation has an R2 of 31%, with virtually all of the explanatory
power resulting from the H variable. Panel B presents additional insight, revealing the resulting R2 of 37% when
using the MACO and TRBO proxies for profits. The estimation with the filter rule as a proxy for profits does not
yield strong results. This is a function of the aforementioned lack of profitability for filter rules. The sub-period
analysis conducted in Section 5.3 provides further data to test the robustness of the estimation in Equation 12.
The results of the estimation with the sub-period data are presented in Table 8.
Table 8 - Estimation results from regression of profits from trending trading rules on H with
sub-period data

The sub-period estimation with the daily data results in an R2 of 0.334 to corroborate the estimation results of
Equation 12. The estimation results with weekly data reveal a weaker relationship (R2 of 0.084). Overall, the
empirical evidence provides strong support for the acceptance of Hypothesis 1, as trending trading rules are more
profitable with stock with higher long-term dependencies.
C. Hurst Exponent and Profits from Contrarian Trading Rules (Hypotheses 2)
Hypotheses 2 postulates that stocks with lower values of H should yield higher profits from contrarian trading
rules. To test this relation between H and profits from the contrarian trading rules, each DJIA component was
grouped according to its H value. The groupings are the same as in the test of Hypothesis 1. Table 9 presents the
results of the classification analysis for the contrarian trading rules. Panel A presents the results for the combined
weekly and daily data, while Panel B and Panel C present the results for daily and weekly data, respectively.
Table 9 - Returns to contrarian trading rules classified by H
The results provide evidence that profits from contrarian trading rules are partially explained by the long-term
anti-dependencies in a time series. Panel A reveals that profits are highest for stocks with values of H that are less
than 0.5 and decrease in H. Contrarian trading rules were able to earn returns of 11.3% in excess of the buy-and-
hold trading strategy for stocks with values of H less than 0.5. The results from Panel B (daily data) and Panel
C (weekly data) are not as consistent.
Again, regression analysis between H and profits from contrarian rules is conducted. The results of the
regression of Equation 12 are presented in Table 10. The results are consistent with Table 9, as the regression
provides some evidence of the synthesis in Hypothesis 2. The estimation produces a low R2 of 5%. However, the
intercept for the H variable is negative and significant at the 10% level.
Overall, the empirical evidence provide some support for the acceptance of Hypothesis 2, as contrarian trading
rules appear to be more profitable on stocks with lower values of H.

Table 10 - Estimation results from regression of profits from contrarian trading rules on H.
D. Lagged H and the Profits from Technical Analysis (Hypothesis 3)

Hypothesis 3 was proposed to determine whether investors can use the H in one period to predict which
stocks will provide the most profit from technical analysis in the following period. A test is conducted through
OLS regression between the profits from the trending trading rules in sub-periods 2 and 3 and the lagged H
(sub-periods 1 and 2, respectively). For example, can Caterpillar’s H of 0.587 in the first sub-period be used to
forecast profits through a trending trading rule for Caterpillar in the second period? If so, then investors can use
information about a time-series dependence to earn profit. The results of the regression estimation are presented
in Table 11 (Panel A).
Table 11 - Estimation results from regression of profits from technical analysis on lagged H

The estimation suggests that the lagged H is not able to forecast future profits. The results are influenced by
the H instability across sub-periods. This has important implications for investors. If H is changing for a time
series, investors will be required to make subjective decisions and forecasts to develop the expectation of time
series’ long-term dependencies to earn profits from technical analysis. Corazza and Malliaris (2002) also note
that H is not fixed but changes dynamically over time.
To mitigate the impacts that an unstable H can have on forecasting profits in future periods, an additional
exploratory test is proposed. The same OLS regression proposed regarding the lagged H was conducted with
the daily and weekly time series that exhibit the lowest standard deviation of H across the sub-period. The
low standard deviation is used as a proxy for a stable H. The results are presented in Table 11 – Panel B.The
estimation results with both weekly and daily data are consistent with Table 11 – Panel A, rejecting Hypothesis 3
by suggesting that the lagged H is not able to forecast future profits on a time series. However, there does appear
to be some predictive ability for traders, as the estimation that utilizes only the daily data result in an R2 of 0.213,
suggesting that there may be profit potential with daily data.
E. Profits from Technical Analysis on Different Scales (Hypothesis 4)
Table 12 presents comparative summary statistics between profits from the trading rules calculated at different
scales (daily and weekly). The empirical evidence reveals that technical trading rules result in different profit
levels when calculated at different scales and therefore rejects the Hypothesis 4. Overall, the average excess
return for all trading rules is negative 2.58%. Moving averages result in negative 2.24% profits, while filter rules,
Bollinger Bands and trading range break-out rules result in profit levels of negative 10.59%, 2.7% and negative
0.22%, respectively. Calculating the trading signals with weekly data results in an average profit for all trading
rules of 0.25%. Moving averages result in negative 3.10% profits, while filter rules, Bollinger Bands and trading
range break-out rules result in profit levels of negative 22.6%, positive 15.9% and positive 10.8%, respectively.
Table 12 – Summary of profits on daily versus weekly scale
Table 12 reveals that the trading rules are more profitable when calculated with weekly data, as 201 of the 360
variants (30 stocks x 4 trading rules x 3 variants of each rule) are profitable, or 55.8%, while only 161, or 44.7%,
variants are profitable with daily data. As discussed earlier, all stocks that result in profits from technical analysis
when calculated with daily data are also profitable with weekly data. However, the weekly data result in much
more variation in the profits, made evident by wider ranges and higher standard deviations.

VI. Conclusion
Currently, much research is being conducted on capital markets and technical analysis. Research on the
application of fractal geometry to capital markets has been much more limited. More specifically, there are
no known studies that investigate the relationship between technical analysis and fractal geometry. The extant
literature solely investigates the ability of H to identify predictability in the financial market. This paper makes
a significant contribution by extending the literature to determine whether technical analysis is able to generate
abnormal returns (after accounting for transaction costs) on time series that exhibit long-term dependencies or
anti-dependence.
Two tests are conducted to evaluate the relationship between H and profits from technical analysis. Both tests
provide evidence that H is able to identify long-term dependencies and anti-dependence that result in higher
(lower) profits from trending (contrarian) trading rules. Therefore, profits from trending (contrarian) trading
rules are higher for time series that exhibit long-term dependence (anti-dependence). This is consistent with the
main postulate of the synthesis (Hypotheses 1 and 2).
There are some limitations that must be addressed. First, the substantial data requirements skew the sample
towards the larger Dow Jones component firms. Therefore, the results may not necessarily be generalizable to
a broader population that includes smaller firms. Future research could focus on testing a more diverse sample
of firms (e.g., all 500 stocks of the S&P 500) and for a longer period of time. Second, this study implicitly
assumesthat the Hurst exponent is constant for each time series over the time period analyzed.It is possible that
the H may vary within sub-periods of the data set. However, the results from Hypothesis 3 provide indirect
support that this assumption does not invalidate the results as the H in one period can be lagged to predict future
profits from technical trading rules. Thirdly, the ten year period analyzed may not be sufficiently long enough
to allow for the emergence of the long-term dependencies to emerge. In addition, the ten year period covers a
trading range market versus a secular uptrending market. Accordingly, future research could focus on testing
long time periods which include secular bull and bear markets.
There are a many future research opportunities to further develop the synthesis between fractal geometry and
technical analysis. The first priority is to further test the relationship between profits and H with more robust
data, likely making use of global equity markets and various firm sizes. Utilizing time series from the global
equity market will provide future researchers with a larger range of H in their sample and also provide access to
a larger pool of securities. Researchers should also seek to understand what causes anomalies in the synthesis.
For example, Pfizer’s weekly time series exhibited an anti-persistent nature (H of 0.431), but technical analysis
was able to earn an average profit level of 14.2%. Finally, and most importantly for investors, researchers should
investigate how H in one sub-period can be used, ex ante, to identify which time series will yield the most
fruitful results from technical analysis. This paper has made a contribution in this area by suggesting that the
sub-periods with daily data are able to predict future sub-period profits from technical trading rules. Researchers
are encouraged to continue research in this area to provide a significant impact to traders and investors.
References
Alexander, S., 1961, Price Movements in Speculative Markets: Trends or Random Walks, Industrial Management
Review 2, 7-26
Alexander, S., 1964, Price Movements in Speculative Markets: Trends or Random Walks, No. 2, in P. Cootner(ed.),
The Random Character of Stock Market Prices (MIT Press, Cambridge, MA)
Allen, F., and R. Karjalainen, 1999, Using Genetic Algorithms to Find Technical Trading Rules, Journal of
Financial Economics 51, 245-271

Ambrose, B. W., E. Weinstock, and M. D. Griffiths, 1993, Fractal Structure in the Capital Markets Revisited,
Financial Analysts Journal, May/June, 49(3), 73-76
Bender, C., T. Sottinen, and E. Valkeila, 2006, Arbitrage with fractional Brownian motion, Theory of Stochastic
Processes, 12(28), 3-4
Blume, L., D. Easley, and M. O’Hara, 1994, Market Statistics and Technical Analysis: The Role of Volume,
Journal of Finance 49, 153–181
Bokhari, J., C. Cai, R. Hudson, and K. Keasey, 2005, The Predictive Ability and Profitability of Technical Trading
Rules: Does Company Size Matter? Economics Letters 86, 21-27
Brock, W., J. Lakonishok, and B. LeBaron, 1992, Simple Technical Trading Rules and the Stochastic Properties
of Stock Returns, Journal of Finance 47, 1731–1764
Carbone, A., G. Castelli, and H. E. Stanley, 2004, Time-Dependent Hurst Exponent in Financial Time Series,
Physica A, 344–267
Chan, L., N. Jegadeesh, and J. Lakonishok, 1996, Momentum Strategies, Journal of Finance 51, 1681–1713
Chang, K, and C. Osler, 1994., Evaluating Chart-based Technical Analysis: The Head-and Shoulders Pattern in
Foreign Exchange Markets, Working paper, Federal Reserve Bank of New York
Cheung, Y. W, 1993, Test for Fractional Integration: A Monte Carlo Investigation, Journal of Time Series Analysis
14, 331-345
Cootner, P., 1964, The Random Character of Stock Market Prices, Cambridge, Mass.: The M.I.T. Press.
Corazza, M. and A. G. Malliaris, 2002, Multifractality in Foreign Currency Markets, Multinational Finance
Journal 6, 387-401
Dooley, M. P. and J. R. Shaler, 1983, Analysis of Short-Run Exchange Rate Behaviour: March 1973 to
November1981, in: Exchange Rate and Trade Instability: Causes, Consequences, and Remedies. Cambridge,
MA: Hallinger.
Fama, E. F., 1965, The Behavior of Stock Prices, Journal of Business 37(Jan), 34-105
Fama, E. and M. Blume, 1966, Filter Tests and Stock Market Trading, Journal of Business 39, 226-241.
Gençay, R., 1999, Linear, Non-linear and Essential Foreign Exchange Rate Prediction with Simple Technical
Trading Rules, Journal of International Economics 47, 91-107.
Glenn, L. A. 2007, On Randomness and the NASDAQ Composite, Working Paper, available at SSRN: http://
ssrn.com/abstract=1124991
Greene, M. T. and B. D. Fielitz, 1977, Long-Term Dependence in Common Stock Returns, Journal of Financial
Economy 4, 339-349
Grundy, B., and S. Martin, 1998, Understanding the Nature of the Risks and the Source of the Rewards to
Momentum Investing, Working paper, Wharton School, University of Pennsylvania.
Hodges, S, 2006. Arbitrage in a Fractional Brownian Motion Market,” Financial Options Research Center,
University of Warwick, Working Paper #95-57
Hurst, H., 1951, Long-term Storage of Reservoirs: an Experimental Study, Transactions of the American Society
of Civil Engineers 116, 770 – 799
Hurst, H., R. P. Black, and Y. M. Simaika, 1965, Long-Term Storage: An Experimental Study, Constable, London.
Jacobsen, B., 1996, Long Term Dependence in Stock Returns, Journal of Empirical Finance, 3(4).

Jegadeesh, N. and S. Titman, 1993, Returns to Buying Winners and Selling Losers: Implications for Stock
Market Efficiency, Journal of Finance 48, 65–91
Kaastra, I. and M. Boyd, 1996, Designing a Neural Network for Forecasting Financial and Economic Time
Series, Neurocomputing 10(3), 215-236
Lento, C., and N. Gradojevic, 2007, The Profitability of Tchnical Trading Rules: a Combined Signal Aapproach,
Journal of Applied Business Research 23(1), 13-27
Lento, C., N. Gradojevic, and C. Wright, 2007, Investment Information Content in Bollinger Bands? Applied
Financial Economics Letters 3(4), 263-267
Levich, R., and L. Thomas, 1993, The Significance of Technical Trading Rules Profits in the Foreign Exchange
Market: A Bootstrap Approach, Journal of International Money and Finance 12, 451–474.
Lo, A. 1991. Long-term Memory in Stock Market Prices, Econometrica 59(5), 1279 – 1313
Lo, A. W., and A. C. MacKinlay, 1997. Maximizing Predictability in the Stock and Bond Markets, Macroeconomic
Dynamics 1, 102–134
Lo, A., H. Mamaysky, J. Wang, 2000, Foundations of Technical Analysis: Computational Algorithms, Statistical
Inference, and Empirical Implementation, Journal of Finance 55(4), 1705-1765
Mandelbrot, B. B. and J. R. Wallis, 1968, Noah, Joseph, and Operational Hydrology, Water Resources Research
4(3), 909-918
Mandelbrot, B.B. and J. R. Wallis, 1969, Computer Experiments with Fractional Gaussian Noises, Part 1,
Averages and Variances, Water Resources Research 5(1), 228-241
Mandelbrot, B. B. and J. R. Wallis, 1969, Robustness of the Rescaled Range R/S in the Measurement of Noncyclic
Long Run Statistical Dependence, Water Resources Research 5(5), 967-988
Mandelbrot, B. B. and J. R. Wallis, 1971, A Fast Fractional Gaussian Noise Generator, Water Resources Research
7(3), 543-533
Mandelbrot, B. B., 1972, Possible Refinements of the Lognormal Hypothesis Concerning the Distribution of
Energy Dissipation in Intermittent Turbulence, in: M. Rosenblatt and C. Van Attas eds.: Statistical Models and
Turbulence (Springer Verlag, New York)
Mandelbrot, B. B., 2004, The (Mis)Behavior of Markets: A Fractal View of Risk, Ruin, and Reward (Basic
Books, New York).
Mehta, M., 1995, Foreign Exchange Markets, in A. N. Refenes, ed., Neural Networks in the Capital Markets
(John Wiley, Chichester, England)
Neely, C., P. Weller, and R. Dittmar, 1997, Is Technical Analysis in the Foreign Exchange Market Profitable? A
Genetic Programming Approach, Journal of Financial and Quantitative Analysis 32, 405–426
Neely, C., and P. Weller, 1998, Technical Trading Rules in the European Monetary System, Working paper,
Federal Bank of St. Louis.
Neftci, S., 1991, Naive Trading Rules in Financial Markets and Wiener–Kolmogorov Prediction Theory: A Study
of Technical Analysis, Journal of Business 64, 549–571
Officer, R. R., 1972, The Distribution of Stock Returns, Journal of the American Statistical Association 67(Dec.),
807-812
Osler, C., and K. Chang, 1995, Head and Shoulders: Not Just a Flaky Pattern, Staff Report No. 4, Federal
Reserve Bank of New York

Peters, E., 1991, Chaos and Order in the Capital Markets: A New View of Cycles, Prices, and Market Volatility
(Wiley, New York)
Peters, E., 1994, Fractal Market Analysis: Applying Chaos Theory to Investment and Economics (Wiley, New
York)
Qian, B. and K. Rasheed, 2004,. Hurst Exponent and Financial Market Predictability, Proceedings of the
Financial Engineering and Applications, FEA 2004, MIT, Cambridge, USA
Rouwenhorst, G., 1998, International Momentum Strategies, Journal of Finance 53, 267–284
Schulmeister, S., 1988, Currency Speculation and Dollar Fluctuations, Quarterly Review, Banca Nazionale
delLavoro 167, 343-365
Schroeder, 1991, Fractals, Chaos, Power Laws. (W.H. Freeman and Company, New York)
Sweeney, R. J., 1988, Some New Filter Rule Tests: Methods and Results, Journal of Financial Quantitative
Analysis 23, 87-92
Szakmary, A., W. N. Davidson, and T. V. Schwarz, 1999,. Filter Tests in Nasdaq Stocks, Financial Review 34(1),
45-70
Taqqu, M. S., 1995. Estimators for Long-Range Dependence: An Empirical Study, Fractals 3(4), 785-788
Wong, C., 1997, The Performance of Trading Rules on Four Asian Currency Exchange Rates working paper,
City University of Hong Kong, available atSSRN: http://ssrn.com/abstract=4259
About the Author
Camillo Lento earned a Ph.D. degree in accounting from the University of Southern
Queensland, Queensland, Australia, in 2012. Currently, he is an Assistant Professor of
Accounting at the Faculty of Business Administration at Lakehead University, Thunder Bay,
Ontario, Canada. Camillo also holds a MSc. and HBComm. Degree, along with being a
Chartered Professional Accountant (Canada), a Chartered Accountant (Canada), and a
Certified Fraud Examiner.

How The Advance-Decline Indicators Came About
4
From Observations, Logic, and Perseverance
George A Schade, Jr., CMT
Abstract
In September 1927, the Cleveland Trust Company published the first Advance-Decline Line originated by
Leonard P. Ayres and his assistant James F. Hughes. For the next three decades, Hughes applied and expanded
the count of the market while adding the Advance-Decline Ratio to the group of market breadth indicators.
After 1958, Richard Russell popularized the innovative work of Ayres and Hughes. Today, these indicators
have wide following.
I. Introduction
In September 1927, the following chart appeared on the last page of the Cleveland Trust Company’s
Business Bulletin:
Figure 1 – The First Published Advance-Decline Line, 1927
STOCK PRICE CHANGES, SHARES TRADED,

AND ISSUES DEALT IN, DAILY IN 1927
The Bulletin explained that the line in the top section “does not show the average prices of a group of
stocks, but rather for each day the preponderance of advances over declines, or of declines over advances,
among all the issues dealt in during that market session. It shows the changing daily trend of the market as a
whole.” (Business Bulletin, 1927) The chart showed the trend between January and August 1927. The other
two lines, correctly named, were a “six-day centered moving average” of the number of shares and issues
traded. (Business Bulletin, 1927)

The chart was the first depiction of an advance-decline line. The writer was Leonard Porter Ayres who is
correctly credited with originating the Advance-Decline Line indicator. Twenty-four years later, his assistant
James F. Hughes recalled “the first count of the market” which Ayres had compiled and shown him “one
morning in January 1926,” on a sheet of paper from a yellow pad. Hughes became Ayres’ assistant in 1923.
When Ayres showed Hughes the “first count of the market” Hughes had seen, Ayres told him, “I think this
will make an interesting stock market statistic.” (Hughes, 1951) The phrase “count of the market” has been
attributed to Ayres, but Hughes wrote that the term was what Hughes called the “routine daily reporting” of
advances, declines, and unchanged. (Hughes, 1951)
This is the story of how the foremost statistician of his time conceived a technical concept which his
assistant applied and expanded building the foundation of today’s advance-decline indicators, a story that
lasted nearly forty years. Seventy-five years later, advance-decline indicators are relied upon by technicians
everywhere.
II. Leonard Porter Ayres (1879-1946)
Ayres has been referred to as Colonel Ayres, and he was a United States Army Colonel in 1920 when he
began working at the Cleveland Trust Company. However, in 1940 he was recalled to active duty with the rank
of Brigadier General. Thereafter, the press referred to him as General Ayres.
Figure 2 – Leonard Porter Ayres1
Ayres was born in Niantic, Connecticut, on September 15, 1879.2 He attended public schools in Newton,
Massachusetts, and in 1902 graduated from Boston University. He taught English in Puerto Rico; in 1906 he
became the superintendent of the island’s school system. In 1910, Ayres received a Ph.D. degree from Boston
University.
1
Portrait is by permission of www.asapresidentialpapers.info hosted by National Opinion Research Center, University of Chicago, for the
American Statistical Association (www.amstat.org).
2
The biography is compiled from www.arligntoncemetery.net and http//ech.cwru.edu (The Encyclopedia of Cleveland History) (visited on Nov.
6, 2011).

Statistical analysis was his professional career. Between 1908, when he was appointed Director of the
Department of Education and Statistics at the Russell Sage Foundation, and 1917, he applied statistical
methods to educational practices. Ayres wrote numerous monographs documenting the application of statistics
to learning programs.
As a preview of his economic statistical career, in 1915, Ayres published an innovative scale for measuring
ability in spelling. The scale (republished in 1985) has been called “one of the most elegant and carefully
standardized tests available in the domain of literacy.”(www.arlingtoncemetery.net)
During World War I, Lieutenant and then Major Ayres organized the military’s Division of Statistics. He
was the chief statistical officer of the American commission to negotiate peace.
Between 1940 and 1942, Ayres served in the United States Army. He was awarded the Distinguished
Service Medal, the highest non-valorous military decoration given for exceptionally meritorious service to
the Nation.
After suffering a heart attack he died at home on October 29, 1946. Announcing his passing away, The New
York Times remembered that:
He was one of the few economists who made persistently pessimistic predictions on the eve
of the 1929 crash. He declined to agree that the crash was only a sixty-day period of ‘business
correction’ and insisted it was one of the major depressions in American history. (Leonard
Ayres, 67, Economist is Dead, 1946)3
The American Statistical Association, of which Ayres was president in 1926, wrote in memorial appreciation:
Few have nurtured so well the art of statistics.…He was always seeking new methods - new
ways of manipulating figures - new chart forms.…He was never lost, however, in his statistical
techniques nor was he overly impressed by them. He made them tools to squeeze the meaning
out of the data. He will be remembered as a master of the presentation of statistics. But his
mastery was based on patient analysis and reflection which reduced problems to their simplest
elements. (Burgess, 1947)
A. The Business Bulletin
In 1920, Ayres began working at the Cleveland Trust Company (established in 1894; shown in Figure 3)
where he was a vice president, economist, and member of the executive committee. For 25 years, he edited
and almost entirely wrote the trust company’s Business Bulletin which became a highly regarded four-page
publication released on the 15th of every month. Today, KeyCorp is the successor to the Cleveland Trust
Company.
In 1920 and 1921, the Bulletin covered the automobile, pig iron, and coal industries as well as building
construction, employment, and agriculture. Thereafter, Ayres began analyzing interest rates, bond yields,
dividend stocks, and business cycles (a subject in which his work has been influential). Stock market
movements and volume began garnering attention. The bull market that had begun in August 1921 likely
prompted the increasing analysis of stock market statistics.
In November 1922, the Bulletin reported the number of stocks, out of the 678 issues traded on the New
York Stock Exchange (“NYSE”) that had reached their highest and lowest prices in each month of that year
through October. Ayres concluded that while stock prices tend to move in one direction, all stocks do not move
together. The stock market is selective as the market averages and some stock prices diverge in trend.
In January 1924, he wrote that while the stock market in 1923 had risen rapidly until March, fallen to July,
3
Ayres’ headstone in Arlington National Cemetery reads “He Sought The Truth That It Might Make Men Free.”

Figure 3 – The Cleveland Trust Company4
recovered to September, fallen to November, and then risen until the end of the year “many individual stocks
did not follow this general trend.” (Business Bulletin, Jan. 15, 1924) Figure 4 recreates the table published in
the Bulletin. Figure 4 shows that among the 629 NYSE issues tabulated, 203 reached their highest prices in
the first quarter and their lowest prices in the fourth quarter. In the fourth quarter, 26 stocks made their highs
and also their lows for the year.
Figure 4 – Stocks Making Their Highs and Lows, Quarterly, 1923
B. The Advance-Decline Line

From studying highs and lows, it is a short step to tabulating advances and declines to see if the divergence
of market averages and stock prices is clearer. In January 1926, Ayres showed Hughes the first “count of the
market.” Ayres’ comments published in September 1926, show that both men had been tabulating the daily
advancing, declining, and unchanged stocks:
On the first of September the stock market had been open for trading in securities 200 days
this year. On 105 of these days a majority of the stocks that were dealt in, and had any net
change in market quotation, advanced in price; on the remaining 95 days a majority of them
declined. Neither the days of advance nor those of decline came in long consecutive sequences.
(Business Bulletin, Sept. 15, 1924)
4
Photograph is courtesy of Cleveland State University Libraries, The Cleveland Memory Project, http://clevelandmemory.org. The domed build-
ing was completed in 1908.

The Bulletin does not indicate why Ayres and Hughes were studying these statistics. In 1951, Hughes
explained that the “primary purpose was to discover a technical method that would time more accurately
major turning points in the stock market after various fundamental relationships had indicated that a turn in
the major trend was a virtual certainty within a few months.” (Hughes, 1951) Ayres was interested in timing
major turning points.
Ayres studied economic relationships in business activity. He found that the relationships can show that a
major turning point in the stock market is ahead, but cannot time when the reversal will occur. According to
Hughes (1951):
After a year or so of trying to combine various economic series so that they would exactly
indicate months of major highs and lows in the stock market, General Ayres reluctantly
conceded that this was expecting too much. He finally decided that economic relationships
were of primary importance in indicating the probability that the market was approaching a
major turning point but that it was more logical to use technical evidence based on the action
of the market itself to time more closely actual reversals in major trends of stock prices.
Current interest rates, which Ayres considered to be “the dominant factor in determining the course of stock
[and bond] prices,” were included in the analysis, but although extremely helpful, the rates were not fully
satisfactory for timing major turning points. (Hughes, 1951)
Ayres and Hughes considered several popular technical methods, but those told that a turning point had
occurred. According to Hughes, “what we wanted was something that told us a turning point was imminent
at a time when our fundamental relationships told us that it was going to be a major turning point.” (Hughes,
1951) These were the objectives that prompted studying the daily advances, declines, and unchanged statistics.
In the chart published in September 1927, Ayres and Hughes observed that the three lines showed a tendency
toward a similar direction of movement, but the agreement was not close. They concluded that “it does not
appear that there exists a sufficiently close agreement to be of much use in judging the probable future course
of the market.” (Business Bulletin, Sept. 15, 1924) It is unknown if this conclusion paused their further studies
of the count of the market.
It does not appear that the Bulletin, at least through 1937, published a subsequent chart of an advance-
decline indicator. In 1938, the Cowles Commission compiled a list of all stock market indexes published from
1871 through 1937. The Commission reported that the Cleveland Trust Company had in September 1927,
published an index of “Daily, Jan.-Aug., 1927, all issues traded on [the] New York Stock Exchange, excess of
number of stocks advancing over those declining.” (Cowles, 1938) No other similar indexes published by the
Cleveland Trust Company were described. This absence indicates that the Business Bulletin through 1937 did
not publish further charts of an advance-decline indicator.
However, in October 1929, the Bulletin published a chart that may be the first description of a cumulation
of advances and declines. The chart shows the percentage of stocks traded on the NYSE that sold higher or
lower at the end than at the beginning of the month. The chart shows that in “five of the nine months the
advancing stock issues have been more numerous than the declining ones, while in the remaining four months
of February, March, May, and September the declining issues have outnumbered the advancing ones,” and
“despite the fact that more issues have advanced than have declined in a majority of the months the total of all
the percentages of advance is 333, while the sum of the declines is 434.” (Business Bulletin, Oct. 15, 1929)
The chart’s information is redesigned and recreated in Figure 5 as follows.

Figure 5 – Percent of All Stocks Traded That Moved Up or Down Each Month, January - September 1929.
Adding the percentages of advances and declines revealed a deterioration that the individual percentages
did not show. During most of 1929 a “creeping bear market” had been hidden by certain stocks advancing
so much they carried the stock market averages up to new levels prior to the October Crash. In spite of new
high records for volume and the market averages (the Dow Industrials closed at its then highest of 381.17 on
September 3, 1929), a bear market had been in progress.
I have not found documents showing that in those early years Ayres and Hughes either cumulated advances
and declines or used ratios. The earliest reference to a cumulative advance-decline line I have found is 1948.
(Mindell, 1948) Ratios came later as a result of Hughes’ innovation. They used daily data. Their analysis
covered the broad market traded on the NYSE.
C. Charles H. Dow (1851-1902)
Dow Theory scholar late Professor George W. Bishop, Jr. noted that Charles H. Dow penned a Wall Street
Journal editorial on January 23, 1900, in which Dow observed, “Take last week for instance: There were
dealings in 174 stocks.… Of these 174 stocks, 107 advanced, 47 declined, and 20 stood still.” (Bishop, 1964)
Bishop did not give any other reference Dow made to advances, declines, and unchanged. Bishop was
noting that Dow discussed stock market “techniques credited to others at a much later date.” He cautioned
that by quoting from this editorial “we do not mean to imply that General Ayres did not arrive at the ‘count of
the market’ independently.” (Bishop, 1964)
My opinion is Dow made a commenter’s observation but cannot be credited with originating the advance
and decline indicators.
III. James F. Hughes
III. James F. Hughes

Little is known about the early years of James F. Hughes, Ayres’ creative and diligent assistant who achieved
his own fame. According to financial analyst A. Hamilton Bolton, writing in 1960, Hughes was one of the
market technicians who “left an indelible mark on Wall Street in the present generation.” (Prechter, 1994)

In 1923, Hughes became Ayres’s assistant at the Cleveland Trust Company. By 1930, he was with the
Wall Street firm of Otis & Company. By April 1934, he was an analyst for Charles D. Barney and Company
which later became Smith Barney & Company. It appears Hughes remained there until March 1946, when
The New York Times announced that Hughes was a market analyst and economist with Auchincloss, Parker &
Redpath.5 (Financial Notes, 1946)
In 1940-41, Hughes served as Vice President of the New York Society of Security Analysts. He wrote at
least three articles for The Analysts Journal, predecessor of the Financial Analysts Journal. Hughes cited
Ayres’s research in the three articles. Between January 15, 1950, and June 15, 1953, Hughes wrote the “Stock
Market Outlook” column for Forbes magazine.
A. American Statistical Association
The American Statistical Association (“ASA”) is the professional organization for statisticians and related
professionals. ASA is the second oldest professional group in the United States having been founded in Boston
in 1839. Florence Nightingale, Alexander Graham Bell, and Andrew Carnegie were members.
Ayres and Hughes shared a connection to the ASA. Ayres served as the ASA’s 21st President. Hughes
was a member at least from 1930 to 1936, and he spoke at several of the famed ASA dinner meetings held in
New York City. The meetings were highly regarded educational events presenting the leading business and
financial people.
Hughes spoke at the following meetings:
May 9, 1929
April 24, 1934 - The other two speakers were Harold M. Gartley and Robert W. Schabacker. The
summary shows Hughes stated that “the best method of forecasting [stock market] movements
is to use indications from the market itself.” (American Statistical Association, 1934)
January 26, 1937 - Two of the other speakers were Gartley and Charles J. Collins of Elliott
Wave fame. Five hundred people attended.
December 30, 1949.
Figure 6 – The Giants of Technical Analysis at Work
5
Hugh D. Auchincloss, Jr., (1897-1976), the stepfather of the late Jacqueline Kennedy Onassis, started the brokerage firm.

B. The Advance-Decline Ratio
Hughes developed the Advance-Decline Ratio which is the difference between advances and declines
divided by total issues traded. After seeing Ayres’ count of the market in January 1926, Hughes wrote that
“one of the first things I thought about this new ‘statistic’ was that the total number of issues traded would
provide an exact measurement each day of the breadth of trading on the NYSE.” (Hughes, 1951) The number
of daily total issues traded is the denominator of Hughes’s indicator.6
Hughes’s non-cumulative advance-decline ratio had its beginnings in what Hughes termed the “Climax-
Breadth Method of Recognizing Market Turning Points.” His interest in temporary selling climaxes, spurred
by the February-March 1926 stock market break, led to his search for an indicator that could time a selling
climax. Hughes was doing this research prior to 1948.7
A selling climax is a burst of liquidation when investors frantically sell their holdings. Hughes noted that a
selling climax was the result of an abnormally large concentration of declines in stocks for several days prior
to a sharp rebound. The question became what “technical developments” could be considered to be abnormal
in the action of a breadth index or in the relation of breadth to a market price index. Hughes (1951) observed
that:
After several years it became obvious that one important abnormal development was the failure
of the breadth index and the industrial average to keep in close alignment. Fundamentally
they had so much in common that it was highly abnormal for them to show any protracted
divergence in trend.
Hughes noted that the abnormality of an important divergence between breadth and price resulted in a
reversal of the market trend that had produced the divergence. Ayres had observed that in a selective stock
market, the prevailing current of prices did not carry all stocks; some diverged. Hughes concluded that an
important divergence between breadth and price was abnormal and led to a major trend reversal.
In a 1959 interview with Burton Crane, a leading financial writer for The New York Times, Hughes explained
why an important divergence between the breadth index and the market averages warns of a reversal. (Crane,
1959) There are many stocks on the NYSE whose prices are influenced by interest rates. As rates rise, these
stocks tend to fall while the more volatile growth stocks that populate market averages continue to soar. A
trend reversal corrects this abnormality.
While at Auchincloss, Parker & Redpath, Hughes edited a market letter based on the Advance-Decline
Ratio. Hughes cautioned that these concepts are not easy to grasp. Referring to the climax-breadth method, he
wrote, “Knowing that it took me from 1926 to 1949 to acquire confidence in this technical method, I am not
amazed that people do not understand it at first sight.” (Hughes, 1952)
IV. Richard Russell

In 1977, noted Dow Theory exponent Richard Russell wrote that:
The Advance-Decline Ratio was conceived by James Hughes of NYC working jointly with
Colonel Leonard Ayres of the Cleveland Trust Co. They did much of their original work back
in the 1920’s and before. During the 1950’s and 60’s Hughes wrote a market letter (based on
A-D Ratio action) at Auchincloss, Parker, Redpath. I used to read this report religiously, and on
occasion I would talk to Hughes about some point or other that I did not understand. As I got
to know more about the A-D Ratio (with Hughes’ help), I introduced it in Dow Theory Letters.
6
Colby (2003) calls a smoothed version of this indicator the Advance-Decline Non-Cumulative: Hughes Breadth-Momentum Oscillator.
7
In 1948, Hughes was recognized for “his original studies of Climaxes.” (Mindell, 1948)

It seems hard to believe now, but in the early 1960’s the A-D Ratio was relatively unknown
on Wall Street. In the introduction to the chart books, I termed the A-D Ratio ‘the single most
valuable aid to technical analysis,’ after (of course) the Averages themselves. I still hold that
opinion.
As the A-D Ratio became more familiar to Wall Streeters, variations and sundry sophisticated
formulas were introduced. Some of these were excellent, most were not. Hughes himself
insisted that only the daily A-D line was significant, and he had little use for the combined
weekly and even monthly A-D Ratio computations. I tend to agree with him.…
Hughes always used the A-D Ratio in conjunction with the Dow Industrial Average, observing
whether the movements of the two were progressing in harmony or whether divergences
were occurring. History demonstrates that the Dow and the A-D tend to move in harmony, and
where divergences (dis-harmony occurs), the market will usually erase the entire movement
which caused the dis-harmony.” (Russell, 1977; Emphases in original)
Russell had been studying the relationship - “a critical one” - between the Dow Industrials (“DJIA”) and
the Advance-Decline Ratio for over twenty years by himself and “with the help of James Hughes.” According
to Russell, it “was Hughes who first called my attention to the fact that extended periods in which the Dow
makes new highs, unconfirmed by new highs in the A-D ratio, lead to trouble. This is not always true, but it is
true in the great majority of cases.” (Russell, 1976; Emphasis in original.)
Since the mid-1960s, Russell has published a chart book of the DJIA and Advance-Decline Ratio which are
shown back to 1931. He wanted “to provide market students with an overall view and feel for this valuable
indicator.” (Russell, 1977)
V. Conclusion
Russell took the work of Ayres and Hughes to the front stage. Russell is the closing actor in this wonderful
story.
Leonard P. Ayres and James F. Hughes originated the Advance-Decline Line and published its first chart
in September 1927. Ayres had noted that the stock market is selective as market averages can trend in one
direction while the movement of some stocks will diverge. Not all stocks move together.
This observation led to the innovation that a technical indicator based on advances, declines, and unchanged
could more accurately time major turning points. Economic relationships in business activities can tell us a
reversal is ahead, but the Advance-Decline Line can tell us when the reversal will occur.
For the next three decades, Hughes continuously applied and expanded the use of advances, declines, and
unchanged while developing the Advance-Decline Ratio. Hughes believed that a breadth and price index have
so much in common that it is highly abnormal for them to show a protracted divergence in trend. An important
divergence between breadth and price results in a reversal of the market trend that created the abnormal
divergence.
These are the concepts underpinning the Advance-Decline Line and Advance-Decline Ratio that Ayres
and Hughes originated. Derived from statistics of market action, with their logic grounded on observations of
market behavior, these indicators continue to excel.

References
American Statistical Association, 1934, Technical Methods of Forecasting Stock Prices, Journal of the
American Statistical Association, vol. 29, 187:325.
Bishop, Jr., George W., 1964, Who Was the First American Financial Analyst?, Financial Analysts Journal,
vol. 20, 2:28. Dow’s editorial was published in The Wall Street Journal, Jan. 23, 1900, vol. 11, 16: 1.
Burgess, W. Randolph, 1947, Leonard P. Ayres: An Appreciation, Journal of the American Statistical
Association, vol. 42, 237: 128.
Business Bulletin, Jan. 15, 1924. Cleveland Trust Co.
Business Bulletin, Sept. 15, 1924. Cleveland Trust Co.
Business Bulletin, Sept. 15, 1927. Cleveland Trust Co.
Business Bulletin, Oct. 15, 1929. Cleveland Trust Co.
Colby, Robert W., 2003, The Encyclopedia of Technical Market Indicators Second Edition. New York:
McGraw-Hill.
Cowles 3rd, Alfred and Associates, 1938, Common-Stock Indexes, 1871-1937. Bloomington, IN: Principia
Press, Inc., p. 439.
Crane, Burton, Stock Indicator Shows No Danger, The New York Times digital archives, Mar. 15, 1959.
Dickson, Richard A. and Tracy L. Knudsen, 2012, Mastering Market Timing. Saddle River, NJ: FT Press.
Financial Notes, The New York Times digital archives, Mar. 14, 1946.
Gartley, Harold M., 1935 (1st ed.) repub. 1981, Profits in the Stock Market. Pomeroy, WA: Lambert-Gann
Pub. Co.
Hughes, James F., 1951, The Birth of the Climax-Breadth Method, The Analysts Journal (today Financial
Analysts Journal), vol. 7, 3 (3rd Qtr).
Hughes, James F., Mar. 1, 1952, Stock Market Outlook, Forbes Magazine, p. 34.
Leonard Ayres, 67, Economist, is Dead, The New York Times digital archives, Oct. 30, 1946.
Mindell, Joseph, 1948, The Stock Market Basic Guide for Investors. New York: B. C. Forbes & Sons Pub. Co.
Morris, Gregory L., 2006, The Complete Guide to Market Breadth Indicators. New York: McGraw-Hill.
Prechter, Jr., Robert R. ed., 1994, The Complete Elliott Wave Writings of A. Hamilton Bolton. GA: New
Classics Library, p. 117.
Russell, Richard, Dow Theory Letters, Letter 668, June 30, 1976, p. 2.
Russell, Richard, Dow Theory Letters, Letter 686, Jan. 14, 1977, p. 2. I have not found documents showing
that Ayres or Hughes worked on market breadth before 1920, but it is improbable.
The Encyclopedia of Cleveland History. http://ech.cwru.edu (visited on Nov. 6, 2011).
www.arlingtoncemetery.net (visited on Nov. 6, 2011).

About the Author
George A. Schade, Jr., CMT, has extensively researched the history of technical indicators
and written about their origins and development. He has sought to answer long standing
questions of attribution and continuity. He is a trial court judicial officer.

Planes, Trains and Automobiles:
5
A Study of Various Market Thrust Measures
Wayne Whaley
Planes, Trains and Automobiles

Market rallies have been appropriately compared to the launch of a rocket. In order for a rocket to have
enough momentum to exit the earth’s atmosphere, the ship must be launched with enough initial force to
defy the earth’s gravity and penetrate the earth’s atmosphere. The theory is the market has an atmosphere of
boundaries as well, made up of old trading ranges, resistance lines, and the tendencies of investors to pocket
short term profits. If the market is to have a chance of overcoming its own atmospheric constraints, the initial
rally must be propelled with a thrust adequate in force to send the market through the levels of resistance that
thwarted previous such launches. Studies (ref 1) have shown that the vast majority of Bull Markets in the last
50 years have been launched with an initial surge that is of the 4 standard deviation (or once every 4 years)
from the norm variety.
After over a decade without a lot of guidance from traditional market breadth thrust indicators, such as a
ten day 2/1 NYSE Advance/Decline ratio, there were three sightings in 2009 and a renewed interest in their
historical significance. The intent of my initial research effort was to revisit the current applicability of these
once treasured signals. The results of my research led me to a refinement of some old trading approaches, and
more importantly, some new discoveries that are described in this paper. The genesis of my research effort was
“If I am going to incorporate these signals into my work, what will I trade if they decide to go AWOL again
at some point in the future. I discovered that just as there are several modes of transportation that can be used
to help us travel from point A to point B, there are several different measures of stock market internals that
are equally adept at thrusting the market from one location to another. Planes, Trains and Automobiles are all
capable of getting us to our destination.
Background
This research can be summarized in the five stages below.
1. Revisit the significance of Breadth (Adv/Dec) Thrust in launching major market moves.
2. Evaluate the utility of evaluating market momentum via measures other than Breadth.
3. Study the statistical significance of Reverse Thrust, commonly referred to as capitulation.
4. Study the significance of lack of Thrust signal sightings over extended periods.
5. Combine all the above research into an Intermediate time frame trading model .
Measures of Market Momentum
My approach was to evaluate several measures of market momentum from several angles of tape activity
over time periods from 1 to 100 days and identify those that were highly reliable in signaling intermediate
(6-12 month) moves in the S&P 500. I studied Breadth (Advances vs. Declines), Up vs. Down Volume, Price
Change, Trin (Volume in Advancing vs Declining issues), Number of Issues making New 12 Month Highs and
12 Month Lows. Provided in this paper is a summary of what I consider the most interesting and statistically

significant results, at least from the perspective of Thrust Signals, and a tape trading model reflecting the findings.
Breadth Thrust Analysis

The Cumulative Advance Decline Line on the NYSE is the traditional measure of market breadth. It is
customarily used because it yields a very broad measure of the number of predominantly blue chip issues
participating in either upward or downward moves. Similar analysis could and has successfully been performed
with other indices as well as derivations of the NYSE.
The breadth measure I have gravitated towards is simply the percent of daily Advances over an N day
period as a percentage of both Advances and Declines (or Issues Traded minus Unchanged) during that same
period. I found when using the traditional NYSE data set, all time frames from 1 to 20 days resulted in some
degree of statistically significant breadth thrust results at certain levels of measurement. For the purpose of
presentation and consistency across tape measures, the time frame I eventually narrowed my focus on is five
days. The reason for the selection of five days will hopefully be evident momentarily, but was primarily due
to its consistency across the various tape measures I evaluated.
This Advance Decline Thrust (ADT) statistic can theoretically range from 0 to 100 with 50 being the
measure of equilibrium. For an example of the calculation, ADT on March 18, 2009 was instrumental in
launching the 2009 rally in equities and could be calculated as follows.
Many market technicians use the ratio of Advances to Declines, but I prefer this percentage calculation
because it has some “Normal” distribution properties that can be useful in statistical analysis.
Table 1 below contains a summary of the average 252 day (appx 12 mt) S&P 500 move across the range of
levels of the Five Day ADT reading for data for the past 40 years (1970 through 2009).
The average annual return for the S&P 500 Index over the time period evaluated was 8.0%. ADT readings
in the middle of the range (25-70) appear to be statistical noise, but the further you get from the mean, the
more statistically bullish the measures become. Measures between 70 and 75 have a statistically significant
bullish bias (18.63%/year) above the norm, with readings above 75 having a perfect record for forecasting
higher equity prices 252 trading days ahead.
One’s first instinct might be to expect extremely low readings to have the exact opposite effect of extremely
high readings, but market bottoms generally occur after what is referred to as a selling capitulation or selling
climax. As you can observe, Five Day ADT readings between 20-25, appear to have a statistically significant
bullish bias (15.59%) as well, with extremely low readings of less than 20 leading to higher prices 12 months
later 100% of the time over the data set studied.

Table 2 shows the S&P results for all ADT readings above 73.66 and below 19.05. 73.66, represents the
level at which 0.2% (or 1 in every 500 trading days) of the defined five day ADT readings fell above. 19.05
corresponds to the level at which 0.1% (1 in every 1000 trading days) of readings fell below. Subsequent
readings meeting these requirements within 5 days of a previous reading were considered repeats and not
included in the table of results. I chose these thresholds (0.2% and 0.1%) because 1) they worked and 2) they
were levels that were consistently significant across several forms of tape measures. Acknowledging there is
some overlap in 12 month periods in the signals represented in Table 2, they were net 18-0 for an average gain
of 23.38%, including the last 5 signals that have not had time to fully terminate.

The primary shortfall of our Five Day ADT signal is that there were none observed for a 21 year period
from November 1987 through October of 2008 and breadth thrust analysis dropped off the radar for many tape
readers. Even the traditional ten day 2/1 A/D breadth thrust measure had a 15 year lapse during this period. But
she has returned with a vengeance, as there were six timely signals in the 12 month period between October
of 2008 and September of 2009. However, it was this periodic absence in signals that led me to investigate the
utility of using other tape measures in pursuit of thrust guidance during time periods void of ADT assistance.
Before we leave the subject of Breadth Thrust, Table 3 shows the performance of the S&P after the rare
event of two breadth thrust signals within a three month time span. Acknowledging that the last three could
be considered repeats of the double signal on Nov 20, 2008, the 12 month performance after twin signals is a
gaudy 30.43% with the smallest 12 month gain after any of the double signals, a respectable 19.30%, with the
last two signals subject to additional gains.
Up/Down Volume Thrust (UDT) Analysis

Market Breadth is not the only tape measure useful in identifying important market thrust occasions.
“Lowry Reports” (ref 2) has well documented research going back to the 70’s, supporting the significance of
single days where Up Volume leads Down Volume by a Nine to One ratio. In my research, I again found that
a five day calculation of Up Volume vs. Total Volume (minus unchanged) yields extremely useful information
as well. Analogous to our work on ADT, Table 4 shows a summary of the results of the S&P after UDT
readings above 77.88% and below 16.41%. In order to avoid the appearance of selecting threshold levels
to fit a particular measure’s results, these two thresholds were again chosen to represent the 0.2% and 0.1%
occurrence levels, respectively.
If you compare the UDT statistics (Table 4) to the ADT statistics (Table 2), you will see a great deal of
correlation between the table of results, both in regard to performance and the signal dates. However, note
that the UDT stats provided valuable signals in 1990, 91 and 97 in the middle of a 20 year void of ADT
thrust signals in what was a very bullish decade that you did not want to sit out. With the exception of the
one small blemish (1.26%) on the 12 month performance for the Nov 11, 1977 observation, the net results are
comparable to the ADT results.

Breadth Thrust Analysis
I studied several other measures of tape activity relative to thrust measures. Most were statistically significant
at certain measurement levels. For example, you could have made a strong case for including the number of
issues making New 12 Month Highs or Lows to our set of thrust tools, but only one other tape angle that I
studied yielded results comparable in bullish predictive accuracy to the two previous studies outlined. The
third and last thrust tape measure I will discuss is simply the percent change in the S&P 500 (SPT) over a five
day period. Table 5 shows the results for the S&P 500 index after all five day 10.05% advances and 13.85%
declines, again chosen to represent the 0.2% and 0.1% occurrence levels.

The results are very highly correlated to the two previous studies, but note that the SPT signal yielded two
very important signals in 2002 that neither the ADT or UDT signals picked up. Also note that the worst
12 month performance after any of the 14 SPT signals is a respectable 6.16%.
Combining the Six Thrust Signals
What I discovered in my research is that no particular tape measure had cornered the market on identifying
momentum thrust signals. Planes, Trains and Automobiles were all capable of getting us to our destination.
The key in the measure of most of the statistics was: Did the market have enough testosterone to generate a
3.5 – 4.0 standard deviation move from the norm? Now let’s get rid of all the repeat signals that are troubling
some of our statistical purists. Table 6 shows the results for the S&P 500, one year (252 trading days) after any
of the previously described six signals. Any time within the 252 day thrust signal period that a new signal from
any of the three sources was observed, the long exposure was extended an additional 252 days. For example,
in the third period listed, an initial price thrust was observed on 741010 and then breadth thrust were observed
on 741011, 750106 and 760106 extending the exit date to 770107, 252 days after the last signal on 760106.
Thrust Signal Observations

1. All twelve thrust periods were profitable with two having returns over 50%.
2. The indicator was long 40.0% of the days in the 40 year analysis.
3. The average annualized return for the longs was 17.12% vs. 8.00% for buy and hold.
4. The average return for each of the 12 buy signal ‘periods’ was 22.82%.
Bearish Warning Signals

Since 1970, the S&P 500 index has been up 72% of calendar years by an average of 8.00% annually
(dividends not considered). Indebted greatly to the inherent long term upward bias in the equity markets,
infallible bear market signals are more difficult to identify than bullish signals. In reference to thrust signals,
I was able to identify some circumstances that give an indication of bearish warning signals or at least
substantially below normal performance.

Absence of Thust Signals for Extended Period
As we have identified, the sweet spot for playing the long side of the market is the year after one of our
previously defined thrust signals. However, if the thrust is powerful enough, the momentum generated can
often carry the market beyond the first 12 months after the initial signal. For example, in Table 6 above, if
you looked at the first year after the 12 month signal coverage had dropped, you would find that the S&P still
returned a respectable 10.9% that following year and was up 10 of those 12 second years. Not the kind of odds
you want to bet the house on, but above the 8.0% annual average and certainly not a period you want to rush
into short positions. But the longer the market goes without a thrust signal, the more vulnerable the market
becomes. Cases in point, in descending chronological order:
2007 The market peaked on October 19, five years and three months after the last thrust signal on July 30,
2002. A seventeen month, 56.8% decline followed.
2000 The market peaked on March 24, nineteen months after the last signal on August 31, 1998. A nineteen
month, 49.14% decline followed.
1987 The possible exception. The market peaked on August 25, 1987, only eight months after the last thrust
signal on January 8. A very short, but painful, two month 33.24% decline followed. The January 8 thrust
signal was very accurate for the three, six, and nine month time frames, but eventually succumbed to the
four rounds of Fed tightening by September. Thrust signal advocates will argue it was indeed the strong
momentum of the market that allowed it to fight the forces of the Fed for as long as it did, and will also
point out that even with the 2 month crash included, the signal was still able to post a 1.47% one year gain.
1981-82 The market peaked on November 28, 1980, three years after the last thrust signal given on November
11, 1977. A nineteen month, 37.2% decline followed.
1976-77 The market peaked on September 21, 1976, two years after the last thrust signal on Oct 9, 1974. A
seven month, 16.6% decline followed.
1973-74 The market peaked on Jan 11, 1973, thirteen months after the last thrust signal on Dec 01, 1971. A
twenty one month, 48.15% decline followed.
Absence of a Thrust Signal for an extended period is not a guarantee of an impending bear market, but is
often an indication that the market is in the late innings.
Stocks Going in Different Directions
Our analysis presented so far, suggests when the market has a tremendous “unified” surge in either direction
over a short period (five days) of time, it tends to be very constructive long term for equities. The opposite
scenario would be a long period in which the troops are divided with an unusual number of issues going in
both directions. One measure of division would be when there is an abnormally large number of issues making
both new 12 Month Highs and Lows at the same time. This would imply either a very confused market or an
extremely very narrow trailing 12 month trading range, either of which tends to be negative for stocks.
Where we have defined thrust as a tremendous burst over a short period of time (1-10 days), market tops are
put in place more inconspicuously. I am now interested in a more extended period where the players are going
in different directions. I use a daily measure of the minimum of the number of stocks making new 12 month
lows or issues making new 12 month highs. I then smooth the data daily with an exponential factor of 0.05 to
give it a chronologically smoothed one month measure effect. Since the number of NYSE issues traded each
day has nearly doubled over the last 40 years, it is important to divide by the number of issues traded each day.
High readings would occur when there are lots of stocks going in different directions and vice versa. Norman
Fosback coined his version of this statistic, the High Low Logic Index, several decades ago (ref 3). I will refer

to my version henceforth as MHL. A MHL reading of X indicates that there has been an average of at least
X% of issues making “both” New Highs or New Lows for approximately one month. The ratings have ranged
from 0 to 2.60% over the last 40 years with a mean of 0.85% meaning on a normal day you will see near 1%
of the issues traded making both New Highs and New Lows. Notice in Table 7, readings below 0.85% have
been followed by above the average 8.0% annual S&P performance. Readings above 0.85 have been followed
by below average performance and readings above 1.80% tend to be followed by negative S&P performance.
Rather than simply using one year as my exit rule and measure of performance, I discovered I had a
much more reliable short trade by going short the S&P on MHL measures above 1.80 and incorporating the
previously defined bullish thrust signals for trade exits. Table 8 shows the results of selling short the S&P 500
on a MHL reading of 1.80 or higher and holding the position for a minimum of two years (504 trading days)
or until a Bullish Thrust reading, whichever came first. The fourth signal on 800211 was the only signal to be
terminated via two year time expiration. The remaining six were terminated via one of our previously defined
initial 12 thrust signals.*
Minimum high Low (MHL) Signal Observations

1. All 7 short positions were profitable
2. The indicator was short 32.7% of the days under analysis.
3. The average return for each short signal was +14.11%
4. The annualized return for the short positions was 7.55% vs. -8.0% for Sell and Hold.

Stocks Going in Different Directions
Incorporating all the insight gathered from the four tape measures (Breadth, Volume, Price and New Highs/
Lows) studied, I wanted to simulate the results of
1. Going 100% Long on bullish thrust signals
2. Going Flat when MHL and the amount of time since the last thrust indicated caution was
warranted and then
3. Going 100% Short when MHL and the amount of time since the last thrust signal indicated
that the market was in a precarious spot.
I accomplished this by initially setting 2.1 on the MHL as my Sell Short point, but moving it down 0.10
each year that transpires after a thrust has been observed. The Danger or Caution area for the market at which
time Longs are neutralized is always 0.5 below the calculated Sell Short point. After a short is taken, I used
a MHL reading of 0.25 to indicate the market was moving into potential thrust signal territory and went flat.
I then went long when a thrust signal was observed. It sounds complicated, but the rules can be summarized
as follows.
If you are Flat,
Go Long on a capitulation or momentum thrust
Five day ADT < 19.05 or ADT > 73.66
Five day UDT < 16.41 or UDT > 77.88
Five Day SPT < -13.85 or SPT > 10.05
Go Short on a MHL reading of 2.1 – 0.1*(number of years since last thrust)
The Sell Short threshold is not to be less than 1.3
If you are Long,
Go Flat on a MHL reading of 0.5 less than the sell short point, not to be less than 0.8
If you are Short,
Go Flat on a MHL reading of 0.25 or lower.
Go Flat two years after the last sell signal, the first day MHL is < 0.8 (late innings)
Go Long on one of the thrust signals defined above
Thrust Research Conclusions
1 Thrust signals are a very important tool for gauging the potential for sizable intermediate market moves.
2. The well documented NYSE 10 day Advance/Decline Thrust indicator is still very reliable when triggered,
but did not give any signals from 1994 to 2008.
3. Other tape measures, besides breadth, can also yield additional insight into Market Thrust potential. In
particular, Up Volume vs Down Volume and simple Price movement.
4. All three measures (Breadth, Up vs Down Volume and Price) had a strong positive correlation with forward
intermediate market moves when observed at the 99.8% occurrence level.
5. Extreme occurrences of Reverse Thrust (capitulation) are very constructive for the market as well, and also
had a strong positive correlation with forward intermediate market moves when observed at the 0.1% level.

6. The longer the market goes without a sign of thrust, the more vulnerable the market is to a sharp move to
the downside .
7. An unusual number of issues making both New 12 Month Highs and Lows can yield some additional
insight into the market’s lack of ability to produce a future thrust.
8. It is expected this trading strategy would spend 20-30% of time in a cash position, thus reducing the risk or
Beta factor of being fully invested in equities at all times.
Author’s Note on Modeling of Thrust
It is the professional opinion of this research paper’s author that it is highly probable that the trading
strategies outlined in this paper will outperform a buy and hold strategy over the next 40 years with less risk
involved than B&H, but that it is highly unlikely that the results demonstrated over the past 40 years will be
reproduced and that occasional maintenance and adjustments of the trading rules will be needed over several
decades time. The respectable trading results from the tape model outlined in this research paper can be shown
to be enhanced additionally by :
1. Incorporating a simple moving average cross over strategy (such as 200 day) during periods when
positions are not being taken and
2. Rather than a trinomial model (long, flat or short), taking varying degrees of exposure based on the
quantity and magnitude of the thrust signals.
References
1. Page 82, Winning on Wall Street, Martin Zweig, 1986.

2. Identifying Bear Market Bottoms and New Bull Markets, Paul F. Desmond, Lowry Reports Inc, 26 Feb
2002, www.mta.org/EWEB/docs/2002DowAwardb.pdf
3. Page 76, Part 1-20, Stock Market Logic, Norman Fosback, High Low Logic Indicator
About the Author

Wayne Whaley
Witter & Lester Inc.

The Organization of the
Market Technicians Association, Inc.
The Market Technicians Association is a not-for-profit professional regulatory organization servicing
over 4,500 market analysis professionals in over 85 countries around the globe. The MTA’s main objectives
involve the education of the public, the investment community and its membership in the theory, practice and
application of technical analysis.
The MTA has the following stated mission:
• Attract and retain a membership of professionals devoting their efforts to using and expanding the field
of technical analysis and sharing their body of knowledge with their fellow members.
• Establish, maintain, and encourage the highest standards of professional competence and ethics among
technical analysts.
• Educate the public and the investment community of the value and universality of technical analysis.
The MTA mission is accomplished through the administration of the CMT Program (Chartered Market
Technician) and effective execution of a wide variety of professional services including, but not limited to,
regional seminars, local chapter meetings, educational webcasts, podcasts, the maintenance of an extensive
library of technical analysis material and the regular publication of Newsletters and Journals.
MTA members and affiliates include technical analysts, portfolio managers, investment advisors, market
letter writers and others involved in the technical aspects of equities, futures, options, fixed income securities,
currencies, international markets, derivatives, etc.
Chartered Market Technician (CMT) Program

The Chartered Market Technician (CMT) Program requires candidates to demonstrate proficiency in a broad
range of topics in the field of technical analysis. The Program consists of three levels. CMT Level I and CMT
Level II are multiple choice exams while CMT Level III is in short answer form.
The objectives of the CMT Program are:
• To professionalize the field of technical analysis
• To promote high ethical and professional standards
• To guide candidates in mastering a professional body of knowledge
Those candidates who successfully complete all three levels of the CMT examination, meet the professional
qualifications as outlined by the MTA Constitution and By-Laws, and abide by the MTA Code of Ethics are
granted the right to use the CMT charter.
What is the Value of the CMT Designation?
The CMT designation demonstrates to clients and potential clients, employers and potential employers, and
your colleagues and peers that you are a professional in the field of technical analysis.
Successful completion of the CMT Level I and CMT Level II exams provides a significant step towards
attaining the Registered Research Analyst (Series 86) from FINRA.
The CMT designation allows you to separate yourself from other professionals in your industry. It is a perfect
complement to your fundamental knowledge of the financial industry.

Charles H. Dow Award Competition
Want to gain the recognition from your peers and the entire technical analysis community?
Begin working on a research paper for the Charles H. Dow Award today!
The Charles H. Dow Award, which is the most significant writing competition in the field
of technical analysis today, has been awarded since 1994. It is given to the research paper which
is judged to contribute creativity, innovative thought and professional presentation to the study
of technical analysis. Past recipients of the Award are among the fields most notable market
technicians.
The winning author will not only receive a cash prize of $5,000, but will also be featured at
a regional MTA seminar or chapter meeting to present the award winning paper. The paper, or a
summary, may be published in the MTA’s Journal of Technical Analysis and the MTA Technically
Speaking e-newsletter, and posted on the MTA website (mta.org) and MTA Knowledge Base
(knowledgebase.mta.org). At the discretion of the judging panel, the authors of runner-up papers
will receive certificates as well. The competition is a great platform for serious technicians to
receive recognition for their work in the field of technical analysis.
The guidelines and copies of all winning papers are posted on the MTA website. Submit
inquiries to DowAward@mta.org.

Journal of TA #67 (2013)

Uploaded by

Document Information

Copyright

Available Formats

Share this document

Share or Embed Document

Sharing Options

Did you find this document useful?

Is this content inappropriate?

Copyright:

Available Formats

Journal of TA #67 (2013)

Uploaded by

Copyright:

Available Formats

Jota Journal

Letter from the Editor 3

1 Analyzing Gaps for Profitable Trading Strategies

Richard J. Bauer, Jr., Ph.D., CFA, CMT

2 A Momentum Trading Effect in Real Estate Funds:

Greg Kuhlemeyer, Ph.D. , Carroll University

3 A Synthesis of Technical Analysis and Fractal Geometry:

Camillo Lento, PhD, CA, CFE

4 How The Advance-Decline Indicators Came About

George A Schade, Jr., CMT

5 Planes, Trains and Automobiles:

The Organization of the Market Technicians Association, Inc. 69

Journal of Technical Analysis • 2013 • Issue 67 1

Julie Dahlquist, Ph.D., CMT

Stanley Dash Jeremy du Plessis, CMT

2 Journal of Technical Analysis • 2013 • Issue 67

Greetings from the Editor!

The mission of the Journal of Technical Analysis (JOTA) is to advance the

Julie Dahlquist, Ph.D., CMT

Journal of Technical Analysis • 2013 • Issue 67 3

4 Journal of Technical Analysis • 2013 • Issue 67

Julie R. Dahlquist, Ph.D., CMT

Journal of Technical Analysis • 2013 • Issue 67 5

6 Journal of Technical Analysis • 2013 • Issue 67

Journal of Technical Analysis • 2013 • Issue 67 7

8 Journal of Technical Analysis • 2013 • Issue 67

Journal of Technical Analysis • 2013 • Issue 67 9

10 Journal of Technical Analysis • 2013 • Issue 67

Journal of Technical Analysis • 2013 • Issue 67 11

12 Journal of Technical Analysis • 2013 • Issue 67

Journal of Technical Analysis • 2013 • Issue 67 13

14 Journal of Technical Analysis • 2013 • Issue 67

About the Authors

Journal of Technical Analysis • 2013 • Issue 67 15

16 Journal of Technical Analysis • 2013 • Issue 67

Journal of Technical Analysis • 2013 • Issue 67 17

18 Journal of Technical Analysis • 2013 • Issue 67

Journal of Technical Analysis • 2013 • Issue 67 19

20 Journal of Technical Analysis • 2013 • Issue 67

Journal of Technical Analysis • 2013 • Issue 67 21

22 Journal of Technical Analysis • 2013 • Issue 67

Journal of Technical Analysis • 2013 • Issue 67 23

About the Authors

Robert A. Kunkel, Ph.D.

24 Journal of Technical Analysis • 2013 • Issue 67

Journal of Technical Analysis • 2013 • Issue 67 25

II. Theory and Hypothesis Development

26 Journal of Technical Analysis • 2013 • Issue 67

Journal of Technical Analysis • 2013 • Issue 67 27

28 Journal of Technical Analysis • 2013 • Issue 67

III. The Data

Journal of Technical Analysis • 2013 • Issue 67 29

30 Journal of Technical Analysis • 2013 • Issue 67

Journal of Technical Analysis • 2013 • Issue 67 31

32 Journal of Technical Analysis • 2013 • Issue 67

Table 2 – H Statistic Descriptive Statistics

Journal of Technical Analysis • 2013 • Issue 67 33

34 Journal of Technical Analysis • 2013 • Issue 67

Journal of Technical Analysis • 2013 • Issue 67 35

Table 5 - Returns to trending trading rules classified by H

36 Journal of Technical Analysis • 2013 • Issue 67

observations in excess of H> 0.60 in order to create such a category.

Journal of Technical Analysis • 2013 • Issue 67 37

38 Journal of Technical Analysis • 2013 • Issue 67