number of trend-following technical trading techniques are studied and applied to various speculative price series. Their profitability as well as their forecasting ability will be statistically tested. Corrections will be made for transaction costs, risk and data snooping to answer the question whether one can really profit from perceived trending behavior in financial time series.
This introductory chapter is organized as follows. In section 1.1 the concepts of fundamental and technical analysis are presented and the philosophies underlying these techniques are explained. Also something will be said about the critiques on both methods. Next, in section 1.2 an overview of the academic literature on technical analysis and efficient markets is presented. Finally section 1.3 concludes with a brief outline of this thesis.
1.1 Financial practice
Fundamental analysis
Fundamental analysis found its existence in the firm-foundation theory, developed by numerous people in the 1930s, but finally worked out by John B. Williams. It was popularized by Graham and Dodd's book ``Security Analysis'' (1934) and by Graham's book ``The Intelligent Investor'' (1949). One of its most successful applicants known today is the investor Warren Buffet. The purpose of fundamental securities analysis is to find and explore all economic variables that influence the future earnings of a financial asset. These fundamental variables measure different economic circumstances, ranging from macro-economic (inflation, interest rates, oil prices, recessions, unemployment, etc.), industry specific (competition, demand/supply, technological changes, etc.) and firm specific (company growth, dividends, earnings, lawsuits, strikes etc.) circumstances. On the basis of these `economic fundamentals' a fundamental analyst tries to compute the true underlying value, also called the fundamental value, of a financial asset.According to the firm-foundation theory the fundamental value of an asset should be equal to the discounted value of all future cash flows the asset will generate. The discount factor is taken to be the interest rate plus a risk premium and therefore the fundamental analyst must also make expectations about future interest rate developments. The fundamental value is thus based on historical data and expectations about future developments extracted from them. Only `news', which is new facts about the economic variables determining the true value of the fundamental asset, can change the fundamental value. If the computed fundamental value is higher (lower) than the market price, then