A technical approach to equity investing in emerging markets

• Date: 01 July 2019
• DOI: http://doi.org/10.1002/rfe.1041
• Published date: 01 July 2019

Rev Financ Econ. 2019;37:389–403. wileyonlinelibrary.com/journal/rfe

|

389

© 2018 The University of New Orleans

1

|

INTRODUCTION

There are two basic investing methods that successful investors use to make money in the stock market, Fundamental Approach

(FA) and Technical Analysis (TA) approach. Analysts who use FA try to determine a company’s value by looking at the overall

economy, industry, earnings per share, cash flows, assets of the company, quality of management, competition, and many other

financial metrics to arrive at the intrinsic or fundamental value of the company and, then, compare this value with the market price.

If a stock’s market price is below a company’s intrinsic value, then it is considered a good investment opportunity and vice versa.

Fundamental analysts will populate their portfolio with this type of company, hoping they can beat the Buy & Hold (B&H) strategy.

We define technical analysis as a method of evaluating stock prices by analyzing statistics generated by market activity such

as volume, open interest, past prices, and various indicators calculated from prices and volume. Technical Analysis is based

upon the assumption that past price and volume, closing price relative to its high and low of the day, and many other indica-

tors built by using past data and volumes could signal future price movements. The phrase “trend is your friend” is based on

technical analysis which uses trends and charting to predict future prices. Murphy (1999) explains that the “concept of trend is

absolutely essential to technical approach (p. 3).” Pring (1991) also points out that “the art of technical analysis, for it is an art,

is to identify a trend reversal at a relatively early stage and ride on that trend until the weight of evidence shows or proves that

the trend has reversed (p. 3).”

Many investors have emerging market (EM) exchange traded funds (ETF) that mimic an emerging markets index (EMI) as part

of their portfolio and follow mostly a B&H strategy. For example, Hutchison (2017) notes “as in all areas of investment, passive

vehicles have grown in popularity for emerging market equity exposure.” Tilly (2017) points out that, in 2003, passive strategies rep-

resented 12% of global assets under management while that figure reached 22% by 2015. Dutt (2017) indicates that “Over the past

Received: 8 January 2018

|

Revised: 4 June 2018

|

Accepted: 22 June 2018

DOI: 10.1002/rfe.1041

ORIGINAL ARTICLE

A technical approach to equity investing in emerging markets

Massoud Metghalchi

|

Linda A. Hayes

|

Farhang Niroomand

School of Business

Administration,University of Houston –

Victoria, Victoria, Texas

Correspondence

Farhang Niroomand, School of Business

Administration, University of Houston –

Victoria, Victoria, Texas.

Email: niroomandf@uhv.edu

Abstract

Technical analysis (TA) is used in evaluating its predictive power for the Morgan Stanley

Capital International (MSCI) Emerging Market Index (EMI) that reflects 23 emerging

market economies’ equity indices. We conclude strong predictive power of technical

analysis for the EMI. Given this predictive power of TA, we then investigate whether

investors can exploit this predictive power to beat the profitability of the Buy- and- Hold

strategy considering both risk and transaction costs. Applying Moving Average, Relative

Strength Index, Moving Average Convergence Divergence, and Rate of Change trading

rules to the MSCI Emerging Market Index over the period of 11/1/1988 to 5/1/2017 re-

veals strong empirical evidence that investors could use TA to out- perform the Buy- and-

Hold strategy even when considering risk and transaction costs. This research provides

evidence against the Efficient Market Hypothesis for EMI.

JEL CLASSIFICATION

G1, G12, G15

KEYWORDS

Buy-and-hold strategy, Emerging market, Market efficiency, Technical analysis, Trading rules