Why Technical Analysis in Trading is 100% Bullshit

I am going to start this post with a simple question: What would happen to the history of astrology if memes were invented 400 years ago? Just imagine living in a parallel universe in 1616, listening to astrological analysis from a local intellectual of the time:

 

"Scumbag Steve has entered The Doge.

Much fortune and wow happiness await for you".

 

No, seriously now. People back in the day would swear that the stars guided daily life. They had no idea what they were—other than little lights on the sky. The knew nothing about the vast distances between them that ultimately made gravitational pulls on earth irrelevant. They just draw seeming lines, had a couple of mushrooms, and voila—animals were popping up in the sky. Shapes of animals that dictated their very life. They called this "The Zodiac". I mean, why not?!

Clearly a Capricorn. How can one interpret it otherwise?  

Fast forward 400 years later, the majority of people still gaze high up in the stars, see the "signs" and still swear by their patterns. Most people insist on reading astrological charts even if astronomy has made all these archaic notions redundant. Astrological books still dominate the ones of astronomy 4/1 in many libraries. Who cares about the science factor though; Look at it! It is clearly a capricorn and the forecast talks about me finding my soul mate!

You are a restless soul with a great need for personal freedom. You also have a low boredom threshold, which can make it difficult for you to do repetitive work for any length of time. You need people to talk to and ideas which inspire you; and you also need an audience to listen to your own inspired thinking. You could sell anything to anyone, provided you believe in what you are selling; and you might also make an excellent teacher or educator.

 

Sounds familiar? Yeah, it's you! It's all you!. Don't blame yourself though. There is an innate reason this random astrological prediction flared up your ego the moment you read it. More on this in a shortwhile

 

Technical Analysis is to Trading what Astrology is to Science

Right about now, the avid "Day Trader" might be filling up with angst. He swears that he can beat the market and make a steady income based on chart analysis. He lurks daily in the dark pits of finance to find secrets about trading. He knows about patterns like "Head and Shoulders" and uses "trend lines". He is a pro.

I have as much fun listening to traders explaining me their "job", as I had back in the day listening to Aboriginal Australians, explaining their sexual habits based on moon phases. Humans are not that different when it comes to falling victims to the phenomenon of pattern deception. We all carry the same instinctual mechanism and it is definitely not designed to be precise.

Patternicity is an innate ability that all humans possess. It helps us finding meaningful patterns in meaningless noise. Traditionally, scientists thought that patternicity was an error in cognition. Later on it was identified as the default autopilot of our brain in order to make sense of its surroundings. We did not evolve a separate *BS Detector* in the brain to distinguish between true and false patterns. We either saw something or we didn't.

Most people swear they see signs in the clouds. Others see faces on Mars. I even saw a post from a popular anarchist recently (you know who) that was explaining the crash of the dollar in respect to the gold. We seem to be able to identify patterns for just about anything. We always see correlations. We rarely examine factual causation because it almost never applies anywhere in this universe. The world is way too chaotic because already entropic systems interact with one another. There is actually a website that one can generate bogus correlations at will.

 

This is the infamous face on Mars

Here is a "professional" pattern that almost all traders swear by. Yes, people make financial decisions based on these. I am not kidding you.

This one is called "Cup & Handle"

This one is called "head & shoulders"

Here is a duck. Much shekels are coming your way

I could go on but I am sure you get the idea. A reasonable human being, employing some critical thinking, can predict that some people will make money based on these observations. Let us take as an example a sample of 1.000.000 traders. Some of them, lets say 1%, will follow the patterns shown above for any given time and/or market intervals. They will make money almost 100% of the time. The rest 20% will have less success but still hit most market trends. This is not proof that technical analysis works. It is simply a normal statistical distribution much like it happens with the lottery. Most loose, very few win. One's Ability is irrelevant. In fact if one draws a normal distribution of successful traders based on the human population it won't be much different from lottery winners.

Who benefits from all these?

There are billion dollar companies employing supercomputers specialising in making specific market investments to the point of manipulation. Almost all the market movements are laid out from the "big players" working on these firms under fully automated bot systems. A day trader cannot possibly go against such technologies. They will have better luck following their horoscope. If a day trader is indeed successful is only short term. In the long term, much like in a casino, people lose money. A suceesful winning streak, ultimately, loses against entropy. These billion dollar companies know this very well and they plan accordingly to make profits from small time traders. People that work there have astronomical salaries. While I was in New York I met such an individual netting sometimes 100K per day just for his programming skills in one of these firms. He was paid by the hour. A NASA scientist barely makes 100K a year. Fo these firms 6 figure costs are next to nothing. They will pay millions just to get 0,1 second faster ping in transactions.

In the crypto world the situation is much worse. A few whales can manipulate trends and literally draw trading lines with their volume in order to convince people to start investing. Once they lure them in, they go short , becoming even more *whaley* while you are left holding the bag. Technical Analysis in the crypto world is straight up theft. A similar parallel would be the driving of cattle to the slaughter house by building fences around them.

Is this a rabbit or a duck?

What can you do about it

If you belong to the 90% of people on this planet that suck at math then stay completely away from trading. If you belong to the other 10% then investigate technical analysis a bit. You are allowed to gamble. You will find out sooner or later that it is not only a meme, but it also uses massive mathematical jargon theories.

Much like any other scam out there, try to educate yourself and people around you. Try to teach about the inability of humans to assign causal probabilities to events. Point that, as fallible humans, we will often force causal associations with non-causal ones just to make sense of the world. It is no different, whether we look up to the stars or arbitrary lines on our computer screen. Evolution has crafted us to be fools with patterns, but I am sure we can do better than that.

Feel free to share your thoughts on the subject. Knowledge is all about sharing kyriacos