Technical Analysis Only Looks At The Past....

JC Parets
November 27, 2015

This has to be one of the more hilarious things that smart people say all the time: "The problem with technical analysis is that it only looks at information from the past". This, to me, is a classic case of nonconcious human mimicry. Some of that research in this area of psychology is fascinating to me as humans tend to mirror the behavior patterns of others. In this example, it's clearly just people repeating something that they once heard, and not something they've actually thought through. I mean, come on. The problem with technical analysis is that it only looks at information from the past? As opposed to what? Information from the future?

As a market technician, both as a hobby and a profession, I obviously laugh at this sort of thing, especially when it comes from someone smart. It's clear they haven't even thought through this and just spit out something they've heard before because they are stuck in their fundamental non-price behavior ways and are looking to justify their stubbornness. Of course technical analysis only looks at information from the past. So does any other form of market analysis. If we had information from the future, trust me we would use it. So would fundamental analysts. Go ask them.

I'll let John Murphy take it away:

“….the validity of using past data to predict the future. It is surprising how often critics of the technical approach bring up this point because every known method of forecasting, from weather predicting to fundamental analysis, is based completely on the study of past data. What other kind of data is there to work with?

The field of statistics makes a distinction between descriptive statistics and inductive statistics. Descriptive statistics refers to the graphical presentation of data, such as the price data on a standard bar chart. Inductive statistics refers to generalizations, predictions, or extrapolations that are inferred from that data. Therefore, the price chart itself comes under the heading of the descriptive, while the analysis technicians perform on that price data falls into the realm of the inductive.

As one statistical text puts it, ‘The first step in forecasting the business or economic future consists, thus, of gather observations from the past.’ (Freund and Williams) Chart analysis is just another form of time series analysis, based on a study of the past, which is exactly what is done in all forms of time series analysis. The only type of data anyone has to go on is past data. We can only estimate the future by projecting past experiences into that future.

So it seems that the use of past price data to predict the future in technical analysis is grounded in sound statistical concepts. If anyone were to seriously question this aspect of technical forecasting, he or she would have to also question the validity of every other form of forecasting based on historical data, which includes all economic and fundamental analysis.”

I'm not sure what else there is to say....

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Source:

Technical Analysis of Financial Markets (John Murphy)

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