Are machines going to replace humans in technical analysis?

Abstract

This study seeks to compare the abilities of humans and machines in technical analysis, to assess the performance of already present machine based systems and finally, to present a new trading system and to analyse its reliability. The new trading system is a moving average, referred to as the Pentagon Exponential Moving Average (PEMA). Technical analysis refers to the study of markets' actions. It involves the use of charts, where past data relating to prices and volume for securities is used, with the aim of predicting potential future trends. The process involves the identification of patterns and establishing market trends. Traditionally, this practice of using historical stock prices to predict where the future stock price will go was done by humans. However, the world is changing at a rapid pace, moving towards robotics and artificial intelligence. Without a doubt, this change also applies to technical analysis. Firstly, from the human point of view, much of the decision making process is made by gut instinct. Therefore, decisions are typically based on feel. Although trading experience certainly aids in enhanced decision making, humans have limiting factors in comparison to machines. It has even been stated that humans only use 10% of their brain. Indeed, machines are able to store substantial quantities of data, which is critical in assessing the various variables in play when seeking to predict future price movements. Machines are simultaneously capable of assessing all stored information, to indicate where the market is potentially heading. The ability to form decisions based on pure logic is another area machines are superior in. Indeed, artificial intelligence promotes consistency whereas humans are emotional beings and this greatly hinders the correct prediction of future price movements. The methodology to be implemented involves the following. Firstly, two interviews will be held to briefly highlight the thought patterns a human makes use of when conducting technical analysis. Secondly, the role artificial intelligence plays in technical analysis, computerized systems used and technical indicators will be examined. Finally, this thesis will present its own trading system which will be compared to the systems already in place. The system will be assessed based on performance and overall reliability. It was indicated that the PEMA outperformed a competing moving average throughout the study and slightly increased its effectiveness when coupled with the Average Directional Index (ADX). These suggest the validity of the new moving average brought forward in this paper. Although further research is encouraged, this study lays out the founding ground of the Pentagon Exponential Moving Average. It is also believed that the moving average's performance and effectiveness can be even more enhanced with the benefits of machine intelligence. This area of research warrants this study because of the ever changing nature in the way technical analysis is conducted. Thus, are machines going to replace humans in technical analysis, and if so, to what degree?