Market Efficiency and the Returns to Technical Analysis

Abstract

We further investigate and provide interpretation for the intriguing Brock, Lakonishok, and LeBaron (1992) finding that simple forms of technical analysis contain significant forecast power for U.S. equity index returns.We document that the forecast ability is partially, but not solely, attributable to return measurement errors arising from nonsynchronous trading.We argue that the evidence of technical forecast power need not be inconsistent with market efficiency."Breakeven" one-way trading costs are computed to be 0.39% for the full sample and 0.22% since 1975, which are small compared to recent estimates of actual trading costs.Further, we test but fail to reject a key restriction that most equilibrium models place on return forecast ability: that the technical rules should not reliably identify periods of negative market risk premia.