Hostname: page-component-586b7cd67f-rdxmf Total loading time: 0 Render date: 2024-11-21T12:57:53.703Z Has data issue: false hasContentIssue false
  • English
  • Français

The Adaptive Markets Hypothesis: Evidence from the Foreign Exchange Market

Published online by Cambridge University Press:  01 April 2009

Christopher J. Neely ,
Paul A. Weller  and
Joshua M. Ulrich
Christopher J. Neely
Affiliation:
Federal Reserve Bank of St. Louis, PO Box 442, St. Louis, MO 63166. neely@stls.frb.org
Paul A. Weller
Affiliation:
Tippie College of Business, University of Iowa, 21 E. Market St., Iowa City, IA 52245. paul-weller@uiowa.edu
Joshua M. Ulrich
Affiliation:
joshua.m.ulrich@gmail.com
Get access Rights & Permissions [Opens in a new window]

Abstract

We analyze the intertemporal stability of excess returns to technical trading rules in the foreign exchange market by conducting true, out-of-sample tests on previously studied rules. The excess returns of the 1970s and 1980s were genuine and not just the result of data mining. But these profit opportunities had disappeared by the early 1990s for filter and moving average rules. Returns to less-studied rules also have declined but have probably not completely disappeared. High volatility prevents precise estimation of mean returns. These regularities are consistent with the Adaptive Markets Hypothesis (Lo (2004)), but not with the Efficient Markets Hypothesis.

Type
Research Articles
Information
Journal of Financial and Quantitative Analysis , Volume 44 , Issue 2 , April 2009 , pp. 467 - 488
Copyright
Copyright © Michael G. Foster School of Business, University of Washington 2009

Access options

Get access to the full version of this content by using one of the access options below. (Log in options will check for institutional or personal access. Content may require purchase if you do not have access.)

References

Andrews, D. “Tests for Parameter Instability and Structural Change with Unknown Change Point.” Econometrica, 61 (1993), 821–856.Google Scholar
Banz, R. “The Relationship Between Return and Market Value of Common Stocks.” Journal of Financial Economics, 9 (1981), 3–18.CrossRefGoogle Scholar
Barberis, N., and Huang, M.. “Mental Accounting, Loss Aversion, and Individual Stock Returns.” Journal of Finance, 56 (2001), 1247–1292.Google Scholar
Brock, W.; Lakonishok, J.; and LeBaron, B.. “Simple Technical Trading Rules and the Stochastic Properties of Stock Returns.” Journal of Finance, 47 (1992), 1731–1764.Google Scholar
Chang, P., and Osler, C.. “Methodical Madness: Technical Analysis and the Irrationality of Exchange-Rate Forecasts.” Economic Journal, 109 (1999), 636–661.CrossRefGoogle Scholar
Cheung, Y., and Chinn, M.. “Currency Traders and Exchange Rate Dynamics: A Survey of the US Market.” Journal of International Money and Finance, 20 (2001), 439–471.Google Scholar
Cheung, Y., and Wong, C. Y.. “A Survey of Market Practitioners’ Views on Exchange Rate Dynamics.” Journal of International Economics, 51 (2000), 401–419.CrossRefGoogle Scholar
Cornell, W. B., and Dietrich, J. K.. “The Efficiency of the Market for Foreign Exchange under Floating Exchange Rates.” Review of Economics and Statistics, 60 (1978), 111–120.Google Scholar
DeLong, J. B.; Shleifer, A.; Summers, L.; and Waldmann, R.. “Positive Feedback Investment Strategies and Destabilizing Rational Speculation.” Journal of Finance, 45 (1990), 379–395.CrossRefGoogle Scholar
Dooley, M. P., and Shafer, J. R.. “Analysis of Short-Run Exchange Rate Behavior: March 1973 to September 1975.” Federal Reserve Board, International Finance Discussion Paper, No. 123 (1976).Google Scholar
Dooley, M. P., and Shafer, J.. “Analysis of Short-Run Exchange Rate Behavior: March 1973 to November 1981.” Floating Exchange Rates and the State of World Trade Payments, OECD (1984), 43–69.Google Scholar
Dueker, M., and Neely, C. J.. “Can Markov Switching Models Predict Excess Foreign Exchange Returns?” Journal of Banking and Finance, 31 (2007), 279–296.CrossRefGoogle Scholar
Fama, E. F., and Blume, M.. “Filter Rules and Stock Market Trading Profits.” Journal of Business, 39 (1966), 226–241.CrossRefGoogle Scholar
French, K. R. “Stock Returns and the Weekend Effect.” Journal of Financial Economics, 8 (1980), 55–69.Google Scholar
Frenkel, J. A., and Levich, R. M.. “Covered Interest Arbitrage: Unexploited Profits?” Journal of Political Economy, 83 (1975), 325–338.Google Scholar
Frenkel, J. A., and Levich, R. M.. “Transaction Costs and Interest Arbitrage: Tranquil versus Turbulent Periods.” The Journal of Political Economy, 85 (1977), 1209–1226.Google Scholar
Friedman, M. The Case for Flexible Exchange Rates, Essays in Positive Economics. Chicago, IL: University of Chicago Press (1953).Google Scholar
Fung, W., and Hsieh, D.. “A Primer on Hedge Funds.” Journal of Empirical Finance, 6 (1999), 309–331.Google Scholar
Gencay, R. “Linear, Non-Linear and Essential Foreign Exchange Rate Prediction with Simple Technical Trading Rules.” Journal of International Economics, 47 (1999), 91–107.Google Scholar
Group of Thirty. “The Foreign Exchange Market in the 1980s.” In Report of the Foreign Exchange Market Study Group, New York, NY: Group of Thirty (1985).Google Scholar
Hong, H., and Stein, J. C.. “A Unified Theory of Underreaction, Momentum Trading and Overreaction in Asset Markets.” Journal of Finance, 54 (1999), 2143–2184.Google Scholar
Horowitz, J. L.; Loughran, T.; and Savin, N. E.. “Three Analyses of the Firm Size Premium.” Journal of Empirical Finance, 7 (2000), 143–153.CrossRefGoogle Scholar
Hsu, P., and Kuan, C.. “Reexamining the Profitability of Technical Analysis with Data Snooping Checks.” Journal of Financial Econometrics, 3 (2005), 606–628.CrossRefGoogle Scholar
Kritzman, M. “Serial Dependence in Currency Returns: Investment Implications.” Journal of Portfolio Management, 16 (1989), 96–102.CrossRefGoogle Scholar
LeBaron, B. “Technical Trading Rule Profitability and Foreign Exchange Intervention.” Journal of International Economics, 49 (1999), 125–143.Google Scholar
LeBaron, B. “Technical Trading Profitability in Foreign Exchange Markets in the 1990’s.” Working Paper, Brandeis University (2002).Google Scholar
Lee, C.; Gleason, K.; and Mathur, I.. “Trading Rule Profits in Latin American Currency Spot Rates.” International Review of Financial Analysis, 10 (2001), 135–156.Google Scholar
Levich, R. M., and Thomas, L. R. III. “The Significance of Technical Trading-Rule Profits in the Foreign Exchange Market: A Bootstrap Approach.” Journal of International Money and Finance, 12 (1993), 451–474.Google Scholar
Lo, A. W. “The Statistics of Sharpe Ratios.” Financial Analysts Journal, 58 (2002), 36–52.Google Scholar
Lo, A. W. “The Adaptive Markets Hypothesis: Market Efficiency from an Evolutionary Perspective.” Journal of Portfolio Management, 30th Anniversary Issue (2004), 15–29.CrossRefGoogle Scholar
Logue, D. E., and Sweeney, R. J.. “White Noise in Imperfect Markets: The Case of the Franc/Dollar Exchange Rate.” Journal of Finance, 32 (1977), 761–768.Google Scholar
Lui, Y., and Mole, D.. “The Use of Fundamentals and Technical Analyses by Foreign Exchange Dealers: Hong Kong Evidence.” Journal of International Money and Finance, 17 (1998), 535–545.CrossRefGoogle Scholar
Lukac, L. P.; Brorsen, B. W.; and Irwin, S. H.. “Similarity of Computer Guided Technical Trading Systems.” Journal of Futures Markets, 8 (1988), 1–13.Google Scholar
Maillet, B., and Michel, T.. “Further Insights on the Puzzle of Technical Analysis Profitability.” European Journal of Finance, 6 (2000), 196–224.Google Scholar
Martin, A. D. “Technical Trading Rules in the Spot Foreign Exchange Markets of Developing Countries.” Journal of Multinational Financial Management, 11 (2001), 59–68.Google Scholar
McCormick, F. “Covered Interest Arbitrage: Unexploited Profits? Comment.” Journal of Political Economy, 87 (1979), 411–417.Google Scholar
Menkhoff, L. “Examining the Use of Technical Currency Analysis.” International Journal of Finance and Economics, 2 (1997), 307–318.3.0.CO;2-8>CrossRefGoogle Scholar
Menkhoff, L., and Taylor, M. P.. “The Obstinate Passion of Foreign Exchange Professionals: Technical Analysis.” Journal of Economic Literature, 45 (2007), 936–972.Google Scholar
Mizrach, B., and Neely, C. J.. “The Transition to Electronic Communications Networks in the Secondary Treasury Market.” Federal Reserve Bank of St. Louis Review, 88 (2006), 527–542.Google Scholar
Neely, C. J. “Technical Analysis in the Foreign Exchange Market: A Layman’s Guide.” Federal Reserve Bank of St. Louis Review, 79 (1997), 23–38.Google Scholar
Neely, C. J. “The Temporal Pattern of Trading Rule Returns and Exchange Rate Intervention: Intervention Does Not Generate Technical Trading Profits.” Journal of International Economics, 58 (2002), 211–232.CrossRefGoogle Scholar
Neely, C. J., and Weller, P.. “Technical Trading Rules in the European Monetary System.” Journal of International Money and Finance, 18 (1999), 429–458.CrossRefGoogle Scholar
Neely, C. J.; Weller, P.; and Dittmar, R.. “Is Technical Analysis in the Foreign Exchange Market Profitable? A Genetic Programming Approach.” Journal of Financial and Quantitative Analysis, 32 (1997), 405–426.Google Scholar
Okunev, J., and White, D.. “Do Momentum-Based Strategies Still Work in Foreign Currency Markets?” Journal of Financial and Quantitative Analysis, 38 (2003), 425–447.Google Scholar
Olson, D. “Have Trading Rule Profits in the Currency Markets Declined Over Time?” Journal of Banking and Finance, 28 (2004), 85–105.Google Scholar
Park, C., and Irwin, S. H.. “The Profitability of Technical Trading Rules in US Futures Markets: A Data Snooping Free Test.” AgMAS Project Research Report 2005-04 (2005).Google Scholar
Park, C., and Irwin, S. H.. “What Do We Know about the Profitability of Technical Analysis?” Journal of Economic Surveys, 21 (2007), 786–826.Google Scholar
Poole, W. “Speculative Prices as Random Walks: An Analysis of Ten Time Series of Flexible Exchange Rates.” Southern Economic Journal, 33 (1967), 468–478.Google Scholar
Qi, M., and Wu, Y.. “Technical Trading-Rule Profitability, Data Snooping, and Reality Check: Evidence from the Foreign Exchange Market.” Journal of Money, Credit, and Banking, 38 (2006), 2135–2158.CrossRefGoogle Scholar
Rosenberg, M. R. Exchange Rate Determination: Models and Strategies for Exchange Rate Forecasting. New York, NY: McGraw-Hill (2003).Google Scholar
Schulmeister, S. “The Interaction Between Technical Currency Trading and Exchange Rate Fluctuations.” Finance Research Letters, 3 (2006a), 212–233.Google Scholar
Schulmeister, S. “The Profitability of Technical Stock Trading Has Moved from Daily to Intraday Data.” Working Paper, Austrian Research Institute (2006b).Google Scholar
Schwert, G. W. “Anomalies and Market Efficiency.” In Handbook of the Economics of Finance, Chap. 15, Constantinides, G., Harris, M., and Stulz, R., eds. Amsterdam: North-Holland (2003), 937–972.Google Scholar
Shleifer, A., and Vishny, R.. “The Limits of Arbitrage.” Journal of Finance, 52 (1997), 35–55.CrossRefGoogle Scholar
Silber, W. “Technical Trading: When It Works and When It Doesn’t.” Journal of Derivatives, 1 (1994), 39–44.Google Scholar
Simon, H. “A Behavioral Model of Rational Choice.” Quarterly Journal of Economics, 69 (1955), 99–118.Google Scholar
Sweeney, R. J. “Beating the Foreign Exchange Market.” Journal of Finance, 41 (1986), 163–182.Google Scholar
Sullivan, R.; Timmermann, A.; and White, H.. “Data-Snooping, Technical Trading Rule Performance, and the Bootstrap.” Journal of Finance, 54 (1999), 1647–1691.Google Scholar
Taylor, M. P., and Allen, H.. “The Use of Technical Analysis in the Foreign Exchange Market.” Journal of International Money and Finance, 11 (1992), 304–314.Google Scholar
Taylor, S. J. “Rewards Available to Currency Futures Speculators: Compensation for Risk or Evidence of Inefficient Pricing?” Economic Record, 68 (1992), 105–116.Google Scholar
Taylor, S. J. “Trading Futures Using a Channel Rule: A Study of the Predictive Power of Technical Analysis with Currency Examples.” Journal of Futures Markets, 14 (1994), 215–235.Google Scholar
Thaler, R. H. “Mental Accounting and Consumer Choice.” Marketing Science, 4 (1985), 199–214.CrossRefGoogle Scholar
White, H. “A Reality Check for Data Snooping.” Econometrica, 68 (2000), 1097–1126.Google Scholar