Saturday, September 2, 2023

Winton: "A history of technical analysis, from 18th century Imperial Japan to Bitcoin price movements today"

First up, Winton's Longer View:

Reading Between the Lines
A history of technical analysis, from 18th century Imperial Japan to Bitcoin price movements today – informed by material from Winton’s archive.
5 January 2018 - 5 minute read
Cryptocurrency mania has brought technical analysis to a new wave of speculators, but traders have been trying to profit from price patterns for centuries.
Technical analysis involves using historical price and volume data to predict market movements. It can be applied in markets ranging from wheat to the latest speculative craze, cryptocurrencies. One Bitcoin pundit, for example, recently discussed the appearance of an "inverse head and shoulder breakout" after the digital currency surged 10% within 24 hours, claiming that “...BTC is trading well above the neckline hurdle of $15,550... prices could rise to $18,600 (target as per the measured height method) over the weekend”. Others have enthusiastically cited the prospect of Fibonacci retracement as a trading signal.
As futuristic as divining the future of digital currencies may seem, attempts to do something similar in other financial markets have a storied past. Primarily relying on intuition and hand-drawn graphical representations of data, early “technicians” were at worst con artists. At best, their approach was crude and lacked the rigour or science of modern systematic investment managers, which use the latest technological and statistical techniques to scour petabytes of data.

Technical analysis pioneers had the foresight, however, to appreciate the opportunities for profit created by crowd psychology. They also instigated the use of charts to navigate peaks and troughs. The series displayed in the GIF below, which has been taken from Winton’s archive, exhibits some of the more common – and more unusual – price patterns identified in financial markets, from "head and shoulders" and "double bottoms" to "rising scallops" and the "reverse horn".
Tech An4
18th Century Crowd Surfing “Night and morning attacks”; “advancing three soldiers”; “counter attack lines” ‒ candlestick chart patterns with such names hint that technical trading first started at a time when the military held sway. And in Edo-period Japan, traders applied technical analysis as they sought to profit from Osaka’s rice futures market.

Munehisa Homma, a speculator and effectively an early behavioural economist, produced some of the earliest descriptions of technical patterns in writings such as The Fountain of Gold—The Three Monkey Record of Money. He attributed trends and reversals to the human emotions exhibited in market behaviour. In Japan, candlestick charts used by technical traders are known as Sakata charts, a fitting reference to Homma’s hometown.
Illuminating Candlestock Charts 
A staple of technical analysis today, candlestick charts are thought to have been developed by traders in19th century Japan, but were not widely used outside the country until the 1990s. Technical analyst Steve Nison is credited with popularising the graphs in the United States early in the decade with a series of articles and books.
The crude oil futures chart, taken from Nison’s 1991 book Japanese Candlestick Charting Techniques, provides an example. White (black) boxes indicate daily market gains (losses). The tops and bottoms of the boxes indicate the market’s opening or closing prices, while the lines capture the daily highs and lows.

The candlestick format has its own set of technical patterns, including the hanging man, dark-cloud cover (depicted here), shooting star, dumpling tops, and some of a military theme mentioned above.
Across the East China Sea, Confucian manuals published rules of thumb to help forecast price movements in the bustling markets of Imperial China. Essential Business, one such manual, explained how “no item will remain expensive for over one hundred days and no item will remain cheap for one hundred days”. The same guides purported to show merchants how to identify market manipulation, understand relationships between price and volume, and handily how to develop a honed Confucian disposition.
These are just two of the many precursors of modern technical analysis that academics and practitioners have traced; other examples date back to ancient Babylon....

And an Oldie-but-Goldie:

The Greatest Hedge Fund Manager of All Time: A Japanese Gent Named Munehisa Homma
We used to post this piece around Cherry Blossom time (April 1 in Osaka) but are late this year.

Akin to Newton inventing the Calculus so he can get on to bigger and better questions, Our Hero had to invent something so he could get on to larger issues.
Our Hero

First posted April 15, 2008:

The Best Hedge Fund Manager of All Time
by John Needham, The Daniel Code Report | January 20, 2008
Samurai Trader!
Homage to Homma
Munehisa Homma is an unsung Japanese hero. We know little of Homma’s life. In some reports his name is spelt Honma, and the activities that were to make him a hero are ascribed to any time from 1650 to 1750. This is his story.
Homma ran the family rice trading business and rice was the lifeblood of Japan. More than a food, rice was a culture, Rice growing villages lived their whole lives around the rice planting, growing and harvesting cycle. Various parts of this cycle were celebrated with festivals and formal ceremonies. Rice was a precious commodity. Rice was more than a commodity; rice was a culture central to Japanese life. From rice came Sake the famous Japanese rice wine, rice cakes, rice flour, rice vinegar and much more. The rice plant produced not only its precious grains but a large amount of lush green foliage which when dry became straw. Rice straw too was an essential part of Japanese life. From straw, traditional villagers in the north made hats, clothes, utensils and the exquisitely fine rice paper. They made important religious figures, masks, decorations and a hundred other everyday items
Rice was the Japanese economy. Feudal rulers, Daimyos collected grain from the farmers as land tax and sold it from their storehouses. Rice trading was the Japanese way of life for farmers and the merchant class. Soon rice would replace currency as the value of worth in the Feudal land of Japan.
Today would be the most important day of Homma’s life, the day he would launch himself on the great adventure that would see him reach dizzying heights of fame and fortune; the day that would eventually see a humble rice trader of the merchant class achieve the greatest honour his country could bestow.
This Monday morning Homma sat cross legged on his precious straw mats at his family rice warehouse and forced himself to concentrate on the lists of deliveries and inventory that required his attention every morning. He looked longingly at a pile of large, fine, rice paper parchment beside his small desk. These parchments were unusually large and ordered for Homma by his good friend Nomura San who made the best Tofu in all of Japan and had access to the oversized parchment which was made in Kyoto. Strangely rice paper is usually not made from rice at all. What most people mean by rice paper was more typically made with any of the three traditional materials of kozo (mulberry), gampi or mitsumata. But this was a special paper for a very special purpose.
These papers were Homma's most precious possession. More precious than the familys land and warehouses; more precious than the inventory of rice bales stored in the six separate warehouses. It was covered with strange symbols all of them painstakingly drawn by Homma. These symbols ran up and down the sheets in strange whirls and patterns. Numbers ran across the bottom and along the sides of the parchment. Some of the indecipherable symbols were colored in red; others were not. The work to produce these magical symbols had been long and arduous. For 15 years Homma had researched ancient records, thinking about what he saw and what he learned and always striving to perfect his understanding of the strange language contained in the symbols. It was a frustrating task.
At times Homma despaired of making the intellectual breakthrough he knew was required. On those days he would retire to his tiny garden where there was a single strategically placed, large, moss covered stone amidst a small stream and two ancient Cherry trees. Homma would gaze at the stone in silent contemplation. Eventually balance or Wa returned to his mind. Something deep inside him forced him to return to his research every day. Instinctively he knew that if he could read just a small part of this mysterious and secret language the rest would unravel, but the search seemed never ending. Homma gave names to each of the symbols and looked for their sequence to repeat. With so many symbols this was indeed an arduous task. As the years passed Homma gradually gained some of the insight he sought. It came not as a bolt from the blue but as a gradual dawning of comprehension. This indeed was insight. This indeed was rare knowledge! 
At last Homma put aside the workaday chores of his family business and pulled the large rice paper parchments to his side. He gazed with fascination and reverent awe at the sheets, then inking his writing tool made from fine hairs, he consulted his notes and carefully inscribed a small square to precise points, then drew a small line from the top of the square upwards. In due course he drew another line of a different but exact length downwards from the square. With unhurried but long practiced precision he finally inked in the box with red ink and sat back. He repeated this procedure on several more of the fine parchments being careful to place each sheet apart for the ink to dry. 
Homma called for a pot of Sencha tea and contemplated his drawing for an hour. He had reached the stage where he could read a number of the secret symbols. In time he would master them all. Of those he did understand he noticed they had consequences. One symbol indicated a certain probability; another symbol had a different meaning. From his limited understanding he had isolated a small group of these magical beasts and watched what happened when a specific sequence occurred. He had tested these sequences in his research hundreds of times and he had seen their specificity repeat again and again. His research covered over 1500 years of records. No one had ever observed a reoccurring event over such a long time span. Now at last he was ready. 
Tomorrow he would rise and leave for the rice market where he would undertake his true calling and unknowingly launch himself into the pages of history. His preparations were made and his mind was serene in the knowledge that he possessed insight unknown to others. At the end of the day Homma took a pot of Gyokuro "the dew of jewels and most precious of Japanese teas to celebrate today's events. Homma was about to take the greatest gamble of his life. It would not be a gamble based on certainties but a gamble based on probabilities. From his endless research Homma could calculate the probabilities better than any man alive. 
Homma felt blessed to live in Osaka and doubly blessed to know about rice. Homma knew a great deal about rice. This was the first day.
On Tuesday, Homma arrived at the rice market, just as a group of growers trundled their carts laden with the new season rice bails into the town square. Here, merchants would inspect and haggle with the growers and their representatives to set today's prices on the bales arriving from local growers and from inland. The growers and their agents were in a gregarious mood. The early harvest was good and the new rice bright and shiny. But business was lethargic. Tea was drunk and pleasantries exchanged. There was no urgency for the merchants to buy. 
The big rice merchants of Osaka adopted their usual pose of indifference. Just sit quietly and show no interest. This tactic always wore down the growers. The biggest rice buyers operated an informal cartel which controlled local prices. They could afford to wait. Growers had more rice on their farms and the main harvest was still to come from the large rice growing regions to the North and inland. Yes they said to the local growers, it is a very nice rice crop; the gods have smiled and you are indeed fortunate; so sorry, our warehouses are full and nobody is buying rice, we are not really buying new bales today. 
Quietly Homma went about his business, greeting the growers, enquiring about their health and their families and buying their offerings. As the day wore on, other merchants noticed Homma still quietly greeting the new arrivals at the market and still buying, buying, buying. What was he doing? Why was he buying? Didn't he know that this was just the start of the harvest and prices were sure to fall as more rice came to market? Silly boy; too impatient; what an embarrassment to his family! This was not the way of the Osaka rice merchants. This was the second day.
Wednesday saw the process repeated. Homma buying, the others pointedly ignoring the new growers as their carts bought in the new bales. Today there were noticeably fewer bales arriving. The cartel, now openly scornful of Homma watched him again operating in his quiet way and still buying. Homma was not perturbed, he knew things that others didn't know because Homma had that most important of all market jewels.....Homma had an edge! His edge was that he knew things about the market that other traders and merchants did not know. In modern terms he had a huge competitive advantage. 
At midday an exhausted horse and its disheveled rider clattered into the town square. The rider rushed to the leader of the Osaka merchants, crouched beside him and whispered fervently. The merchants' news service was catching up with reality. The rider from the north was the last leg of a relay to bring the awful news to the cartel of merchants. Late and unseasonal rains in the major growing areas were ruining the annual rice harvest! There would be no abundant crop this year and rice prices were going up and up as the commodity grew scarce...MORE
note: the original link (above) to Financial Sense Online has rotted and a quick search of the site turned
Here's the rest of the story at Forex Alchemy with links to the original author's site, The Daniel Code.