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Anthony FJ Garner
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Anthony Garner is a British national based in London. He left investment banking in 1992 in favour of a long cherished aim to work for himself and since 1995 has been trading financial markets for his own account, as well as having established, run or acted as consultant to a number of hedge... More
My company:
Malplaquet LLC
My blog:
Anthony FJ Garner
My book:
A Practical Guide to ETF Trading Systems
  • Positive Autocorrelation And Trend Trading Success. 0 comments
    Sep 24, 2013 4:45 PM

    In his interesting article "The Main Cause of Failure of Some Popular Technical Trading Methods" Michael Harris says:

    "Indicator based trend following and classical chart patterns are two trading methods that were developed in mid 20th century using data from the equity markets mainly and worked well during an extended period of time in those markets due to the presence of autocorrelation. After 1998 things got harder because serial correlation in equity indices decreased due to arbitrage and by 2007 it was mostly gone rendering these methods largely ineffective.

    On the above daily chart of S&P 500 from 01/03/1950 to 12/19/2012 the bottom pane is the 1-Lag rolling 120-day autocorrelation of daily arithmetic returns [X(i+1)/X(i) - 1]. It suffices to observe that from 01/1950 to 04/1988 the autocorrelation was very high, especially after 07/1964 and through 04/1988, or for a period of 24 years, with very few and short periods of negative autocorrelation. That was a very good time for technical methods based on trend-following and chart patterns during which some traders might have gotten the impression that these methods are significant although their success was clearly due to the high autocorrelation in the equity markets, i.e. the fact that future prices quite often behaved like past prices. In other markets, like commodity futures and currencies, which started trading in the mid 1970s, these technical methods were later applied and expected to work because they were raised to causation rules by some authors but in reality they failed more often than they worked well and were basically responsible for the high rate of failure of retail traders and even some funds."

    I copied Michael's instructions and calculated the 1 lag rolling 120 day autocorrelation of the daily arithmetic returns of both on the S&P cash price series and the ratio adjusted futures contract.

    I attach al chart- the remainder of my charts can't be uploaded and refernce will have to be made to my website at the given link at Traders Place. Firstly note the less than perfect correlation between the futures and cash series.

    Secondly note the far more pronounced downturn in positive autocorrelation for the relevant period of the cash series over the ratio adjusted futures series.

    Thirdly note the chart of the equity curve of a simple dual moving average crossover system, 50: 200, trading the ratio adjusted futures contract for the period of its existence from 1982.

    My initial conclusion is that the use of serial correlation analysis, or at least the 1 lag rolling 6 month variety, is not of a great deal of value in explaining the success or otherwise of a trend following system. I prefer to define "trendiness" in other ways which I find more helpful.(click to enlarge)

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