Currency Orders and Exchange-Rate Dynamics: Explaining the Success of Technical Analysis

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Staff Reports

Currency Orders and Exchange-Rate Dynamics: Explaining the Success of Technical Analysis

April 2001 Number 125

JEL classification: G1, F3

Author: Carol L. Osler

This paper provides a microstructural explanation for the success of two familiar predictions from technical analysis: 1) trends tend to be reversed at predictable support and resistance levels, and 2)trends gain momentum once predictable support and resistance levels are crossed.

The explanation is based on a close examination of stop-loss and take-profit orders at a large foreign exchange dealing bank. Take-profit orders tend to reflect price trends, and stop-loss orders tend to intensify trends. The requested execution rates of these orders are strongly clustered at round numbers, which are often used as support and resistance levels. Significantly, there are marked differences between the clustering patterns of stop-loss and take-profit orders, and between the patterns of stop-loss buy and stop-loss sell orders. These differences explain the success of the two predictions.

Available only in PDF PDF

45 pages / 133 kb

For a published version of this report, see Carol L. Osler, "Currency Orders and Exchange Rate Dynamics: An Explanation for the Predictive Success of Technical Analysis," Journal of Finance 58, no. 5 (October 2003): 1791-819.

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