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The head and shoulders pattern has stirred up quite a bit of debate for a
while now. This 1995 Fed paper (67 pages) generated a lot of interest:
http://www.ny.frb.org/rmaghome/staff_rp/sr4.pdf
August 1995
Number 4
Head and Shoulders: Not Just a Flaky Pattern
C.L. Osler and P.H. Kevin Chang
This paper evaluates rigorously the predictive power of the
head-and-shoulders pattern as applied to daily exchange rates. Though such
visual, nonlinear chart patterns are applied frequently by technical
analysts, our paper is one of the first to evaluate the predictive power of
such patterns. We apply a trading rule based on the head-and-shoulders
pattern to daily exchange rates of major currencies versus the dollar during
the floating rate period (from March 1973 to June 1994). We identify
head-and-shoulders patterns using an objective, computer-implemented
algorithm based on criteria in published technical analysis manuals. The
resulting profits, replicable in real-time, are then compared with the
distribution of profits for 10,000 simulated series generated with the
bootstrap technique under the null hypothesis of a random walk.
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