Equity Prices- Application of Fibonacci Numbers

(A study of India, Singapore, Taiwan,South Korea and Hongkong)

Authors:-

Dr. N. S.Malik
Faculty, Haryana School of Business,
Email:- nsmalik2002@yahoo.com

Rajat Singla
Student, MBA (Finance),
Haryana School of Business,
Email:- rajsingla007@gmail.com
Ph. +91925742555
 Equity Prices- Application of Fibonacci Numbers
(A study of India, Singapore, Taiwan, South Korea and Hong Kong)

Abstract
This paper is mainly aimed to make a prediction about the equity indices of the various markets by
using Fibonacci technique. The predictions made are totally based on the Fibonacci numbers. The
main aim of this paper is to predict the prices and then to find the reasonable opportunity for the
purpose investment as well as to take the proper decision regarding the withdrawal of their investment
from the market. This prediction has its own success rate based on the predictor experience.

Introduction
The most widely used process to analyze investment decisions particularly in financial assets fall into
two very broad categories: fundamental analysis and technical analysis. Fundamental analysis involves
analyzing the characteristics of a company in order to estimate its value, however, Technical analysis
takes a completely different approach; it doesn't care one bit about the "value" of a company or a
commodity for short period. Technicians (also called chartists) are always looking for predicting the
possible movement in the prices of the concerned assets/securities primarily based on the historical
price trends. Despite all the fancy and exotic tools it employs, technical analysis really just studies
supply and demand in a market in an attempt to determine what direction, or trend, will continue in the
future. In other words, technical analysis attempts to understand the emotions in the market by
studying the market itself, as opposed to its components. If you understand the benefits and limitations
of technical analysis, it can give you a new set of tools or skills that will enable you to be a better
trader or investor. The field of technical analysis is based on three assumptions which are:- The
market discounts everything, Price moves most of the times in random and History tends to repeat.

Fundamental Vs. Technical Analysis

Technical analysis and fundamental analysis are the two main schools of thought in the financial
markets. As we've mentioned, technical analysis looks at the price movement of a security and uses
this data to predict its future price movements. Fundamental analysis, on the other hand, looks at
economic factors, known as fundamentals. Let's get into the details of how these two approaches
differ, the criticisms against technical analysis and how technical and fundamental analysis can be
used together to analyze securities. Yet there are some differences in both of the above which are:-

At the most basic level, a technical analyst approaches a security from the charts, while a fundamental
analyst starts with the financial statements. By looking at the balance sheet, cash flow statement and
income statement, a fundamental analyst tries to determine a company's value. In financial terms, an
analyst attempts to measure a company's intrinsic value. In this approach, investment decisions are
fairly easy to make - if the price of a stock trades below its intrinsic value, it's a good investment.
Although this is an oversimplification (fundamental analysis goes beyond just the financial statements)
for the purposes of this tutorial, this simple tenet holds true. Technical traders, on the other hand,
believe there is no reason to analyze a company's fundamentals because these are all accounted for in
the stock's price. Technicians believe that all the information they need about a stock can be found in
its charts.

Fundamental analysis takes a relatively long-term approach to analyzing the market compared to
technical analysis. While technical analysis can be used on a timeframe of weeks, days or even
minutes, fundamental analysis often looks at data over a number of years. The different timeframes
that these two approaches use is a result of the nature of the investing style to which they each adhere.
It can take a long time for a company's value to be reflected in the market, so when a fundamental
analyst estimates intrinsic value, a gain is not realized until the stock's market price rises to its
"correct" value. This type of investing is called value investing and assumes that the short-term market
is wrong, but that the price of a particular stock will correct itself over the long run. This "long run"
can represent a timeframe of as long as several years, in some cases. Furthermore, the numbers that a
fundamentalist analyzes are only released over long periods of time. Financial statements are filed
quarterly and changes in earnings per share don't emerge on a daily basis like price and volume
information. Also remember that fundamentals are the actual characteristics of a business. New
management can't implement sweeping changes overnight and it takes time to create new products,
marketing campaigns, supply chains, etc. Part of the reason that fundamental analysts use a long-term
timeframe, therefore, is because the data they use to analyze a stock is generated much more slowly
than the price and volume data used by technical analysts.

Not only is technical analysis more short term in nature that fundamental analysis, but the goals of a
purchase (or sale) of a stock are usually different for each approach. In general, technical analysis is
used for a trade, whereas fundamental analysis is used to make an investment. Investors buy assets
they believe can increase in value, while traders buy assets they believe they can sell to somebody else
at a greater price. The line between a trade and an investment can be blurry, but it does characterize a
difference between the two schools.

Although technical analysis and fundamental analysis are seen by many as polar opposites - the oil and
water of investing - many market participants have experienced great success by combining the two.
For example, some fundamental analysts use technical analysis techniques to figure out the best time
to enter into an undervalued security. Oftentimes, this situation occurs when the security is severely
oversold. By timing entry into a security, the gains on the investment can be greatly improved.
Alternatively, some technical traders might look at fundamentals to add strength to a technical signal.
For example, if a sell signal is given through technical patterns and indicators, a technical trader might
look to reaffirm his or her decision by looking at some key fundamental data. Oftentimes, having both
the fundamentals and technical’s on your side can provide the best-case scenario for a trade. While
mixing some of the components of technical and fundamental analysis is not well received by the most
devoted groups in each school, there are certainly benefits to at least understanding both schools of
thought.

One of the most important concepts in technical analysis is that of trend. The meaning in finance isn't
all that different from the general definition of the term - a trend is really nothing more than the
general direction in which a security or market is headed. Take a look at the chart below:

Figure 1
It isn't hard to see that the trend in Figure 1 is up. However, it's not always this easy to see a trend:
 Figure 2

There are lots of ups and downs in this chart, but there isn't a clear indication of which direction this
security is headed.

A More Formal Definition

Unfortunately, trends are not always easy to see. In other words, defining a trend goes well beyond the
obvious. In any given chart, you will probably notice that prices do not tend to move in a straight line
in any direction, but rather in a series of highs and lows. In technical analysis, it is the movement of
the highs and lows that constitutes a trend. For example, an uptrend is classified as a series of higher
highs and higher lows, while a downtrend is one of lower lows
and lower highs.

Figure 3

Figure 3 is an example of an uptrend. Point 2 in the chart is the first high, which is determined after the
price falls from this point. Point 3 is the low that is established as the price falls from the high. For this
to remain an uptrend, each successive low must not fall below the previous lowest point or the trend is
deemed a reversal. There are three types of trend:
• Uptrends
• Downtrends
• Sideways/Horizontal Trends

As the names imply, when each successive peak and trough is higher, it's referred to as an upward
trend. If the peaks and troughs are getting lower, it's a downtrend. When there is little movement up
or down in the peaks and troughs, it's a sideways or horizontal trend. If you want to get really
technical, you might even say that a sideways trend is actually not a trend on its own, but a lack of a
well-defined trend in either direction. In any case, the market can really only trend in these three
ways: up, down or nowhere.

Along with these three trend directions, there are three trend classifications. A trend of any direction
can be classified as a long-term trend, intermediate trend or a short-term trend. In terms of the stock
market, a major trend is generally categorized as one lasting longer than a year. An intermediate trend
is considered to last between one and three months and a near-term trend is anything less than a
month. A long-term trend is composed of several intermediate trends, which often move against the
direction of the major trend. If the major trend is upward and there is a downward correction in price
movement followed by a continuation of the uptrend, the correction is considered to be an
intermediate trend. The short-term trends are components of both major and intermediate trends. Take
a look a Figure 4 to get a sense of how these three trend lengths might look.

Figure 4
When analyzing trends, it is important that the chart is constructed to best reflect the type of trend
being analyzed. To help identify long-term trends, weekly charts or daily charts spanning a five-year
period are used by chartists to get a better idea of the long-term trend. Daily data charts are best used
when analyzing both intermediate and short-term trends. It is also important to remember that the
longer the trend, the more important it is; for example, a one-month trend is not as significant as a
five-year trend. A trend line is a simple charting technique that adds a line to a chart to represent the
trend in the market or a stock. Drawing a trend line is as simple as drawing a straight line that follows
a general trend. These lines are used to clearly show the trend and are also used in the identification of
trend reversals. As you can see in Figure 5, an upward trend line is drawn at the lows of an upward
trend. This line represents the support the stock has every time it moves from a high to a low. Notice
how the price is propped up by this support. This type of trend line helps traders to anticipate the point
at which a stock's price will begin moving upwards again. Similarly, a downward trend line is drawn
at the highs of the downward trend. This line represents the resistance level that a stock faces every
time the price moves from a low to a high.

Figure 5

A channel, or channel lines, is the addition of two parallel trend lines that act as strong areas of support
and resistance. The upper trend line connects a series of highs, while the lower trend line connects a
series of lows. A channel can slope upward, downward or sideways but, regardless of the direction, the
interpretation remains the same. Traders will expect a given security to trade between the two levels of
support and resistance until it breaks beyond one of the levels, in which case traders can expect a sharp
move in the direction of the break. Along with clearly displaying the trend, channels are mainly used
to illustrate important areas of support and resistance.

Figure 6

Figure 6 illustrates a descending channel on a stock chart; the upper trend line has been placed on the
highs and the lower trendline is on the lows. The price has bounced off of these lines several times,
and has remained range-bound for several months. As long as the price does not fall below the lower
line or move beyond the upper resistance, the range-bound downtrend is expected to continue. It is
important to be able to understand and identify trends so that you can trade with rather than against
them. Two important sayings in technical analysis are "the trend is your friend" and "don't buck the
trend," illustrating how important trend analysis is for technical traders.

Technical Analysis: Support and Resistance

Once you understand the concept of a trend, the next major concept is that of support and resistance.
You'll often hear technical analysts talk about the ongoing battle between the bulls and the bears, or
the struggle between buyers (demand) and sellers (supply). This is revealed by the prices a security
seldom moves above (resistance) or below (support).
As you can see in Figure 7, support is the price level through which a stock or market seldom falls
(illustrated by the blue arrows). Resistance, on the other hand, is the price level that a stock or market
seldom surpasses.

In technical analysis our main concentration is to identify the trend of the movement in the stock
prices and it is done with the help of various charts and by using a lot of theories and econometric
models. In the technical analysis mainly the following types of techniques can be used:-

1. Dow theory

2. Wave theory

3. Japanese candlestick

4. Fibonacci Technique & ratios.

For the purpose of the present study, the Fibonacci technique & ratios have been used for
predicting the price movement in the indices namely S&P CNX Nifty (India), TSEC Weighted
Index (Taiwan), STI (Singapore), Hang Seng (Hong-kong), and KOSPI Composite
Index(Korea)

Review of literature:-
Brown and Jennings (1989) showed that technical analysis has value in a model in which prices are
not fully revealing and traders have rational conjectures about the relation between prices and signals.
Frankel and Froot (1990) showed evidence for the rising importance of chartists.
Neftci (1991) showed that a few of the rules used in technical analysis generate well-defined
techniques of forecasting, but even well-defined rules were shown to be useless in prediction if the
economic time series is Gaussian. However, if the processes under consideration are non-linear, then
the rules might capture some information. Tests showed that this may indeed be the case for the
moving average rule.
Taylor and Allen (1992) report the results of a survey among chief foreign exchange dealers based in
London in November 1988 and found that at least 90 per cent of respondents placed some weight on
technical analysis, and that 2 there was a skew towards using technical, rather than fundamental,
analysis at shorter time horizons.
In a comprehensive and influential study Brock, Lakonishok and LeBaron (1992) analysed 26
technical trading rules using 90 years of daily stock prices from the Dow Jones Industrial Average up
to 1987 and found that they all outperformed the market.
Blume, Easley and O’Hara (1994) show that volume provides information on information quality that
cannot be deduced from the price. They also show that traders who use information contained in
market statistics do better than traders who do not.
Neely (1997) explains and reviews technical analysis in the foreign exchange market.
Neely, Weller and Dittmar (1997) use genetic programming to find technical trading rules in foreign
exchange markets. The rules generated economically significant out-of-sample excess returns for each
of six exchange rates, over the period 1981–1995.
Lui and Mole (1998) report the results of a questionnaire survey conducted in February 1995 on the
use by foreign exchange dealers in Hong Kong of fundamental and technical analyses. They found that
over 85% of respondents rely on both methods and, again, technical analysis was more popular at
shorter time horizons.
Neely (1998) reconciles the fact that using technical trading rules to trade against US intervention in
foreign exchange markets can be profitable, yet, longterm, the intervention tends to be profitable.
LeBaron (1999) shows that, when using technical analysis in the foreign exchange market, after
removing periods in which the Federal Reserve is active,exchange rate predictability is dramatically
reduced.
Lo, Mamaysky andWang (2000) examines the effectiveness of technical analysis on US stocks from
1962 to 1996 and finds that over the 31-year sample period, several technical indicators do provide
incremental information and may have some practical value.
Fern´andez-Rodr´ıguez, Gonz´alez-Martel and Sosvilla-Rivero (2000) apply an artificial neural
network to the Madrid Stock Market and find that, in the absence of trading costs, the technical trading
rule is always superior to a buyand- hold strategy for both ‘bear’ market and ‘stable’ market episodes,
but not in a ‘bull’ market. One criticism I have is that beating the market in the absence of costs seems
of little significance unless one is interested in finding a signal which will later be incorporated into a
full system. Secondly, it is perhaps naïve to work on the premise that ‘bull’ and ‘bear’ markets exist.
Lee and Swaminathan (2000) demonstrate the importance of past trading volume.
Neely and Weller (2001) use genetic programming to show that technical trading rules can be
profitable during US foreign exchange intervention.
Cesari and Cremonini (2003) make an extensive simulation comparison of popular dynamic strategies
of asset allocation and find that technical analysis only performs well in Pacific markets.
Cheol-Ho Park and Scott H. Irwin wrote ‘The profitability of technical analysis: A review’ Park and
Irwin (2004), an excellent review paper on technical analysis.
Kavajecz and Odders-White (2004) show that support and resistance levels coincide with peaks in
depth on the limit order book 1 and moving average forecasts reveal information about the relative
position of depth on the book. They also show that these relationships stem from technical rules
locating depth already in place on the limit order book.
Objectives of the study:-

This study aims to address the following objectives:-

• To understanding the price movements in indices belonging to India, Singapore, Korea,

Taiwan & Hong Kong.

• To predict the price movements in the respective indices under study.

• To evaluate the validity of the price predictions using Fibonacci technique.

• To find if there is any similarity in the application of Fibonacci numbers for predicting equity
indices in emerging and/or developed markets in Asia.
Research Methodology:-

This study will include five indices of India, Singapore, Taiwan, Hong Kong and Korea. Among these
indices, three are emerging markets (India, Taiwan & Korea) where as two are the developed markets
(Hong Kong and Singapore).

For the purpose of the present study daily data on the respective indices have been taken for the period
of three years stating 1st January 2006. The data have been sourced from www.finance.yahoo.com. As
to see the validity of the technique and the success rate chi-square test will be used.

The data will be analyzed by dividing the whole into two parts.

Fibonacci Technique:-

Fibonacci series is most popular widely used method out of various stock selection methods followed
by assets valuer’s and stock market experts around the world. A large number of Stock market
technical experts around the world strongly believe that Fibonacci analysis gives highly successful
results in predicting the movement of prices.

Fibonacci series was discovered by Leonardo Fibonacci Da Pisa who was born around 1170 A.D.,
(more than 800 years back!). He became prominent mathematician of that time and is credited with
publishing an all time great book on mathematics called Liber Abacci (Book of calculation). In that
world famous book, among other things he comes up with a series of numbers, what we now call the
Fibonacci series. Fibonacci series was discovered long before there were stock markets and amazingly
it works very well in the Stock market as it does with many other natural phenomena. A lot of
phenomena in nature, science, technology, astronomy and astrology is explained by this property of
Fibonacci series.

With the help of these techniques and formulas, you can easily catch up major up moves in your list of
stocks just before it happens and take advantage of those strong up moves to earn guarantee profits in
every trade when ever you identify these moves using Fibonacci techniques and Fibonacci arithmetic
formulas.

In mathematics, the Fibonacci numbers are a sequence of numbers named after Leonardo of Pisa,
known as Fibonacci. Fibonacci's 1202 book Liber Abaci introduced the sequence to Western European
mathematics, although the sequence had been previously described in Indian mathematics. The first
number of the sequence is 0, the second number is 1, and each subsequent number is equal to the sum
of the previous two numbers of the sequence itself, yielding the sequence 0, 1, 1, 2, 3, 5, 8, etc. In
mathematical terms, it is defined by the following recurrence relation:

That is, after two starting values, each number is the sum of the two preceding numbers. The first
Fibonacci numbers (sequence A000045 in OEIS), also denoted as Fn, for n = 0, 1, 2, … ,20 are:-

F0 F1 F2 F3 F4 F5 F6 F7 F8 F9 F10 F11 F12 F13 F14 F15 F16 F17 F18 F19 F20
0 1 1 2 3 5 8 13 21 34 55 89 144 233 377 610 987 1597 2584 4181 6765

Above is the Fibonacci numbers in the true sense. But for the purpose of the technical analysis we
have to convert these true numbers into the some percentage or in further parts to calculate some
strong numbers in order to apply them in the analysis. For that purpose we can make the relation of
such numbers with the previous one or even to the earlier numbers. In order to find the strong numbers
calculations have been made as follows:- Some of the strong numbers which this study will used for
the purpose of the predicting the equity indices are as under:-

Based on
Original Based of Based on Based on Based on
the third
numbers consecutives 4th one 5th one 6th one
one
1 1 0.5 0.333333 0.2 0.125
1 0.5 0.333333 0.2 0.125 0.076923
2 0.666667 0.4 0.25 0.153846 0.095238
 3 0.6 0.375 0.230769 0.142857 0.088235
5 0.625 0.384615 0.238095 0.147059 0.090909
8 0.615385 0.380952 0.235294 0.145455 0.089888
13 0.619048 0.382353 0.236364 0.146067 0.090278
21 0.617647 0.381818 0.235955 0.145833 0.090129
34 0.618182 0.382022 0.236111 0.145923 0.090186
55 0.617978 0.381944 0.236052 0.145889 0.090164
89 0.618056 0.381974 0.236074 0.145902 0.090172
144 0.618026 0.381963 0.236066 0.145897 0.090169
233 0.618037 0.381967 0.236069 0.145899 0.09017
377 0.618033 0.381966 0.236068 0.145898 0.09017
610 0.618034 0.381966 0.236068 0.145898 0.09017
987 0.618034 0.381966 0.236068 0.145898 0.09017
1597 0.618034 0.381966 0.236068 0.145898 #DIV/0!
2584 0.618034 0.381966 0.236068 #DIV/0! #VALUE!
4181 0.618034 0.381966 #DIV/0! #VALUE! #DIV/0!
6765 0.618034 #DIV/0! #VALUE! #DIV/0! #DIV/0!
10946 #DIV/0! #VALUE! #DIV/0! #DIV/0! #DIV/0!

Strong
numbers 0.618 0.382 0.236 0.146 0.09

By making the calculation the following numbers have been determined:-

1. .618 or 61.8%
2. .382 or 38.2%
3. .236 or 23.6%
4. .146 or 14.6%
5. .090 or 9 %
6. .764 or 76.4%
 Analysis and interpretation:-

Nifty (India)

F-Test Two-Sample for Variances

Variable 1 Variable 2
Mean 4204.982432 4208.648649
Variance 903593.2141 896620.2898
Observations 37 37
df 36 36
F 1.007776898
P(F<=f) one-tail 0.490793394
F Critical one-tail 2.205018
t-Test: Two-Sample Assuming
Equal Variances

Variable 1 Variable 2
Mean 4204.982432 4208.648649
Variance 903593.2141 896620.2898
Observations 37 37
Pooled Variance 900106.7519
Hypothesized Mean Difference 0
df 72
t Stat -0.016620992
P(T<=t) one-tail 0.493392475
t Critical one-tail 2.379262106
P(T<=t) two-tail 0.98678495
t Critical two-tail 2.645851891
Singapore

F-Test Two-Sample for

Variances

Variable 1 Variable 2

Mean 3128.237333 3148.229

Variance 386957.3724 379066.9517

Observations 30 30

df 29 29

F 1.020815375

P(F<=f) one-tail 0.478071135

F Critical one-tail 2.423438995
t-Test: Two-Sample
Assuming Equal Variances

Variable 1 Variable 2
Mean 3128.237333 3148.229
Variance 386957.3724 379066.9517
Observations 30 30
Pooled Variance 383012.162
Hypothesized Mean
Difference 0
df 58
t Stat -0.125108941
P(T<=t) one-tail 0.450434969
t Critical one-tail 2.392377461
P(T<=t) two-tail 0.900869938
t Critical two-tail 2.66328694
Taiwan
F-Test Two-Sample for
Variances

Variable 1 Variable 2
Mean 7741.717 7750.590667
Variance 2688199.213 2577493.592
Observations 30 30
df 29 29
F 1.042950881
P(F<=f) one-tail 0.455309338
F Critical one-tail 2.423438995
t-Test: Two-Sample Assuming
Equal Variances

Variable 1 Variable 2
Mean 7741.717 7750.590667
Variance 2688199.213 2577493.592
Observations 30 30
Pooled Variance 2632846.402
Hypothesized Mean Difference 0
df 58
t Stat -0.021180489
P(T<=t) one-tail 0.491587189
t Critical one-tail 2.392377461
P(T<=t) two-tail 0.983174377
t Critical two-tail 2.66328694
South Korea

F-Test Two-Sample for

Variances

Variable 1 Variable 2
Mean 1629.041333 1632.301667
Variance 105691.1825 99594.0965
Observations 30 30
df 29 29
F 1.061219352
P(F<=f) one-tail 0.436990109
F Critical one-tail 2.423438995
t-Test: Two-Sample Assuming
Equal Variances

Variable 1 Variable 2
Mean 1629.041333 1632.301667
Variance 105691.1825 99594.0965
Observations 30 30
Pooled Variance 102642.6395
Hypothesized Mean Difference 0
df 58
t Stat -0.039413384
P(T<=t) one-tail 0.484348082
t Critical one-tail 2.392377461
P(T<=t) two-tail 0.968696164
t Critical two-tail 2.66328694
Hongkong

F-Test Two-Sample for

Variances

Variable 1 Variable 2
Mean 22940.18233 22966.84933
Variance 10340268.12 9848519.509
Observations 30 30

df 29 29
F 1.049931221
P(F<=f) one-tail 0.448258342
F Critical one-tail 2.423438995
t-Test: Two-Sample Assuming
Equal Variances

Variable 1 Variable 2
Mean 22940.18233 22966.84933
Variance 10340268.12 9848519.509
Observations 30 30
Pooled Variance 10094393.81
Hypothesized Mean Difference 0
df 58
t Stat -0.032507208
P(T<=t) one-tail 0.487089589
t Critical one-tail 2.392377461
P(T<=t) two-tail 0.974179178
t Critical two-tail 2.66328694

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