A Paradigm Shift and a Currency Pair

“History, with all her volumes vast, hath but one page” – George Gordon Byron

Preamble:  If you take 5 minutes to read through how EidoSearch is a game changing solution for every investor, there’s a great trade idea at the end.  Or, you can just skip down to the idea and take our word for it.

We often hear people say that the markets are pattern driven.  Makes sense.  Every investor, long term or short term oriented, with a focus on fundamentals, technical or other, looks at price charts constantly to try and understand what is taking shape with their positions or the market in general.  The way the price is trending elicits a response as to how we feel about the investment and where it is headed in relation to the market, other securities or other periods in its history.  People have a great ability to take a snapshot of a current trend, and think about when they’ve seen this market behavior before.  In fact, looking at charts allows us to recall those times more effectively so we can anticipate what might happen at current.

Many innovative investors throughout history, who have seen certain types of trends play out over and over again in the market, have taken this a step further and “classified” these patterns they have seen repeat.  There are lots of examples, but some visionaries include Charles Dow in the late 1800’s (Market trends) and J. Welles Wilder in the late 1970’s (Relative Strength Index).  The work of these folks, mathematicians and many others has led to a collection of ways to incorporate price trends, and “technical” indicators that much of the investment community utilize today, e.g. resistance levels, moving averages, momentum, mean reversion, etc.

By classifying certain types of trends and patterns, investors are able to study and identify them so they can more easily spot when they are occurring at present.  These indicators have been around for a long time, yet many investors have not integrated these techniques into their investment process.  Probably for a couple reasons.  First, to be done well and utilized, some consider the use of price trends and technical patterns an art form.  There are Market Technician designations dedicated to this study in fact, which cover a tremendous field of work and is a challenging craft to perfect.  Second, many investors don’t believe that it’s important enough to incorporate.  We have grown up in a market, where for the past 50 years, the Efficient Market Hypothesis has been the broadly accepted standard.  Academia and most of the investment community have not been at the forefront of verifying the validity of price trends.  Until recently.

In part due to the market events of 2008, behavioral analysis and the desire by investors to understand the impact of price trends is gaining popularity.  The work of Yale University Economist, Robert Shiller, in behavioral analysis is well known and regarded, leading to a Nobel Prize in Economic Sciences in 2013.  Andrew Lo, MIT Sloan Professor and co-author of The Econometrics of Financial Markets, A Non-Random Walk Down Wall Street, provides strong statistical evidence of the predictable patterns in stock prices and also the promise of technology for Wall Street to more easily utilize the information.  In practice, large financial institutions are rethinking their risk management and modelling practices, looking for more effective measures for the impact of behavior and price trends.  We (EidoSearch) have verified, based on looking at billions of patterns over the past 5 years, that price trends are predictive (white paper available).

The need from the investment community to understand the impact of price trends, in portfolio management, risk management and trade timing are growing.  Now, the stumbling block is becoming how to analyze and integrate the information.  Understanding price trends can take tremendous experience and is limited to what has thus far been defined, or “classified”, as valuable to watch for.  For those who are able to analyze it effectively, modelling this in the investment process can still be very time consuming and manual.  To then get it in the hands of the PM’s, Analysts and Traders to have an impact, when they are already overwhelmed by information, is an even greater challenge.  This is clearly a field ripe for disruption by technology.

The problem with many technology solutions is that they add to the complexity or are a black box/algorithm that is difficult to incorporate.  That defeats the purpose!!  Technology is now able to tackle the issue of verifying the predictive nature of price trends (as stated above we have verified this) and the need to model it for the investment process, but in many instances the advance in technology creates confusion.  As defined by Thomas Kuhn (he coined the phrase “Paradigm Shift”), as models progress, explanations tend to become more complex before a Paradigm Shift offers radical simplification.  EidoSearch is the Paradigm Shift in the area of pattern analysis, bringing an easy to use platform to every investor to capture the impact of price trends and investor behavior.

EidoSearch simply identifies the patterns in the securities you care about that have price trends at current that are predictive.  With one click, you can see when these price trends have occurred historically and to see the range of how investors reacted as a an objective input for how they are likely to react again.  Isn’t this really what we’re after?  Classifications aside, complications aside, just give me the historical precedence for this current environment so I can anticipate what is most likely going to happen next.

The power of EidoSearch is not only accuracy and speed, but transparency and simplicity.  The ability to look at a current price trend, determine if investors have reacted to it in a consistent fashion historically, and then to alert the client if it’s a pattern that’s predictive is fast and accurate.  Then, the investor can scroll through the historical instances to apply their own experience of historical market conditions to determine whether the matches are an effective precedent for the current environment adding further power to the projection.  Also simplified is that the investor doesn’t need to have intimate knowledge of “defined” price trends like Momentum, Mean Reversion or classic technical patterns.  We are simply looking at all the patterns for the securities you care about and identifying the price trends that are likely to have impact, whether they have been classified before or not.  Our technology, and the ability to look through 100 million patterns in one second, provides exploration and realization of a whole new set of price trends that accurately reflect repeated investor responses to certain types of conditions.

If you haven’t shot-gunned the Kool Aid yet, then here’s an example of the power of EidoSearch.

We set up a watch-list of about 50 major currency pairs, and every day it refreshes to look at the current price trend for every pair.  The software automatically looks at both short and long term trends, and for each currency pair finds the most similar historical instances of the current pattern and generates predictive analytics for every pair.

The investor wastes no time manually investigating this, as the software identifies the few that have current price trends where investors have reacted in a very positive or negative fashion historically.  We drop it in your lap, and with a couple of clicks allow you to inspect the matches, and the most likely outcomes over the coming days, weeks or months for idea generation, monitoring existing positions and increasing profitability on the trades.

Based on Friday’s close, here’s a negative projection for the Singapore Dollar and Japanese Yen (SGD/JPY).

One month price trend in the SGD/JPY, and the one week forward projection based on the 21 most similar historical instances of this pattern in the history of the SGD/JPY.  The average return of the historical instances in the next one week is -0.7%, and only 3 out of the 21 times was the pair up in the next one week.  Also notice the range (orange lines) of historical outcomes, and the deviation of the historical instances that are down in the next one week is much greater than the few that are up.

Here’s a chart showing the 21 historical instances, and the full range of their returns in the next one week historically       .

Replicating the Market Call in EidoSearch (Subscribers Only)

• You can set up a watchlist and see the projections above, with one click or……
• Go to New Search tab and click “Currencies” in the drop down (top button to the right)
• Select SGD/JPY and hit view and select a 1 month pattern (top of chart)
• Hit the Search One button at the bottom right of the chart to get the projection and underlying analytics

Have a great week!