Master’s Thesis Quantitative Finance

Erasmus School of Economics

(FEM21030)

Joris Bakker (435108)

Technical Analysis in the Cryptocurrency

Market
Assessment of intra-day trading strategies in the BitCoin market based on multiple
data-snooping tests

Abstract

This paper examines the profitability and significance of a universe of 3312 intra-day
technical trading rules on the 5-minute BTC/USD spot exchange rate between January
2013 and July 2017. We find numerous significantly profitable trading strategies, even
after adjusting for data-snooping effects and transaction costs. However, profitability is
highly unstable and declines over time. Combining signals of multiple trading rules by
means of a neural network classification algorithm results in strategies which outperform
the individual trading rules and benchmarks based on risk-adjusted profitability and
break-even transaction costs. It is concluded that technical analysis in the cryptocurrency
market is significantly profitable and that the cryptocurrency market is not fully efficient.
Keywords: Technical Trading Rules, Data-snooping, Cryptocurrencies, High-frequency
Trading, Foreign Exchange Market, Neural Networks

supervised by
Dr. D. van Dijk
X. Gong
A. Tilgenkamp

December 14, 2017

Contents

1 Introduction 2

2 Universe of Technical Trading Rules 5

3 Data 15

4 Performance Metrics 17

5 Data-snooping Tests 19

6 Empirical Results 23
6.1 Significance of the Technical Trading Rules . . . . . . . . . . . . . . . . . . 23
6.2 Best Performing Technical Trading Rule . . . . . . . . . . . . . . . . . . . . 25
6.3 Transaction Costs . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 27
6.4 Subperiod Analysis . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 31

7 Combining Signals: A Machine Learning Approach 33

7.1 Combining Trading Signals . . . . . . . . . . . . . . . . . . . . . . . . . . . 34
7.2 Neural Networks . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 35
7.3 Significance of the Combined Signal Strategies . . . . . . . . . . . . . . . . 38
7.3.1 Network of the Full Universe of Trading Rules . . . . . . . . . . . . 38
7.3.2 Network of Trading Rules Classes . . . . . . . . . . . . . . . . . . . . 40

8 Conclusion 42

9 Discussion and Further Research 42

A Appendices 44
A.1 Trading Rule Parameterizations . . . . . . . . . . . . . . . . . . . . . . . . . 44
A.2 Tables . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 45
A.3 Figures . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 45

B Bibliography 48

1
1 Introduction
The use of technical analysis is a widespread and persistent phenomenon which is highly
influential in the decision making of foreign exchange professionals. Trading rules based on
technical analysis have proved to be capable of providing valuable economic signals and to
provide attractive returns. While numerous studies have been conducted on the profitabil-
ity of technical trading rules in the equity and foreign exchange market, the cryptocurrency
market has never been directly addressed. The main contribution of this paper is to ex-
tend the research on technical trading rules by evaluating a large universe of intra-day
trading strategies in the cryptocurrency market. We find numerous significantly profitable
strategies, even after adjusting for data-snooping effects and transaction costs.
The continued use and profitability of technical analysis is puzzling (Taylor & Allen
1992). Technical analysis involves the prediction of future exchange rate movements from
an inductive analysis of historical time series using quantitative techniques. Technical anal-
ysis is not rooted in underlying financial theory, but relies solely on recurring past exchange
rate patterns. As, according to the efficient market hypothesis (Fama 1970), past infor-
mation should already be embodied in current prices, persistent performance of technical
trading rules is surprising. Particularly in the foreign exchange and cryptocurrency mar-
kets, which are characterized by large trading volumes and almost non-existent private
information about fundamentals, technical trading rules should not yield persistent excess
returns. Finding profitable technical trading rules in the cryptocurrency market would
provide empirical evidence against market efficiency.
Technical analysis is widespread and primarily adopted for short trading horizons.
Menkhoff & Taylor (2007) introduce two stylized facts regarding the prevalence of technical
analysis in the foreign exchange market1 :

1. ”Almost all foreign exchange professionals use technical analysis as a tool in decision
making at least to some degree”. (p. 940)

2. ”The relative weight given to technical analysis as opposed to fundamental analysis

rises as the trading or forecast horizon declines.” (p. 940)

The intensive use of technical analysis for short trading horizons contradicts the efficient
market hypothesis and requires some further review. Menkhoff & Taylor (2007) argue that
there prevails a consensus that fundamentals are able to explain long-term exchange rate
behavior, but a fundamentals-based model for exchange rate movements in the short-term
is still not widely accepted. Neely & Weller (1999) showed, among others, that in the short-
term, the performance of technical trading rules is considerably better than forecasts based
on macroeconomic information. Schulmeister (2009) shows that the profitability of some
technical models have declined substantially since the 1960s and have been unprofitable
since the 1990s, when based on daily data. However, when based on 30-minute time
intervals, the same models generate substantial returns which do not seem to decline over
time. In a more recent study, Manahov et al. (2014) argue that nearly all foreign exchange
traders who use technical analysis operate at a high-frequency level and that over 75% of
all foreign exchange trades take place within a single day. The large weight on technical
analysis for short-term trading is caused by the incapability of explaining short-term price
movements by fundamentals.
1
Based on (survey) studies by Taylor & Allen (1992), Menkhoff (1997), Lui & Mole (1998), Cheung &
Wong (2000), Oberlechner (2001), Cheung & Chinn (2001), Cheung et al. (2004) and Gehrig & Menkhoff
(2004)

2
 Technical analysis can be profitable in the foreign exchange market. Menkhoff & Taylor
(2007) introduce three stylized facts regarding the profitability of technical trading rules in
the foreign exchange market. The first stylized fact is given by2 :

3. ”The consideration of transaction costs and interest rate costs actually faced by profes-
sionals does not necessarily eliminate the profitability of technical currency analysis”.
(p. 946)

This insight is important but evident; if technical analysis was never profitable, it’s widespread
application was ambiguous. Nevertheless, academics seem to be skeptical about the prof-
itability of technical trading rules. Olson (2004) showed that the out-of-sample profitability
of simple moving average technical trading rules based on daily exchange rates declined over
time, eliminating temporary risk-adjusted market inefficiencies. Neely et al. (2009) showed
that daily returns tend to deteriorate over time as more traders learn about the technical
trading rules and start to exploit them, but with a slower speed than consistent with mar-
ket efficiency. Similarly, literature on intra-day technical trading rules does not convey a
clear picture. Gençay et al. (2002) find that technical trading models with high-frequency
data can generate excess returns, while Curcio et al. (1997) and Neely & Weller (2003)
find no evidence of excess returns of the intra-day strategies. In this paper we consider
actual transaction costs and thus provide a sound report regarding the excess profitability
of technical trading rules in the cryptocurrency market.
Performance of technical analysis is volatile over time. The second3 and third4 stylized
facts are given by:

4. ”Technical analysis tends to be more profitable with volatile currencies”. (p. 947)

5. ”The performance of technical trading rules is highly unstable over time”. (p. 947)

Cornell & Dietrich (1978) and Neely & Weller (1999) both show that the higher returns
of volatile currencies are no compensation for bearing more systematic risk. Volatility
causes more opportunities to improve upon the original price series. As cryptocurrencies
appear to be more volatile than developed fiat currencies, this stylized fact is promising.
Although instability of trading rule performance is undesired, fundamentals-based exchange
rate models are also characterized by unstable performance (Menkhoff & Taylor 2007). In
summary, technical analysis is widely used and can be profitable, particularly when trading
horizons are short and prices are volatile. We show in this paper that the cryptocurrency
market is consistent with all stylized facts on profitability of technical analysis in the foreign
exchange market.
Data-snooping is a well-documented statistical issue which is often not correctly ad-
dressed when evaluating a variety of models. In their literature review, Park & Irwin
(2007) acknowledge the potential profitability of technical trading rules, but state that
most empirical studies fail to account for, among others, data-snooping. Data-snooping
biases arise when academics continue to search for predictive trading rules, while only con-
ducting individual tests using the same dataset. To test a large universe of technical trading
rules correctly, all models should be tested together for their significance. Sullivan et al.
(1999) were the first to account for data-snooping effects in testing a universe of trading
2
Based on findings by Cornell & Dietrich (1978), Sweeney (1986), Schulmeister (1987), LeBaron (1999),
Saacke (2002) and Neely et al. (2009)
3
Based on empirical evidence presented in studies by Cornell & Dietrich (1978), Dooley & Schafer (1983),
Lee & Mathur (1996) and Neely & Weller (1999)
4
Based on works of Loque et al. (1978), Dooley & Schafer (1983), Menkhoff & Schlumberger (1995),
LeBaron (2000), Dueker & Neely (2007) and Neely et al. (2009)

3
rules. We adopt four methods to make appropriate statistical inferences and account for
data-snooping biases: White (2000)’s Reality Check, Hansen (2005)’s SPA test, Romano
& Wolf (2005)’s studentized stepM test and Hsu et al. (2010)’s stepwise SPA test. This
is the first study on technical analysis in the foreign exchange market which conducts and
compares these four data-snooping methods on the same universe of trading rules.
A major contribution of this paper is the extension it provides to the research on techni-
cal trading rules to the cryptocurrency market. A cryptocurrency is a digital asset designed
to work as medium of exchange, acting as an alternative to fiat currencies. Cryptocurren-
cies use encryption techniques to secure transactions and control the creation of additional
units. While the idea of a digital currency is long-established, the development has gained
traction as libertarian response to the perceived failures of governments and central banks
during the 2008 crisis (Balcilar et al. 2017). The most prominent cryptocurrency is BitCoin.
BitCoin is an open-source digital payment system, first described by Nakamoto (2009), that
is powered by its users with no central authority. BitCoins are created in a process called
‘mining’, in which users provide computer power to validate and record BitCoin payments
into a publicly distributed ledger called ‘the blockchain’. Besides the generation of new
BitCoins, miners can be rewarded by requiring transaction fees for their services, however
this is optional. As a result, transaction fees are set by supply and demand; allowing higher
transaction fees will increase the speed of your transaction as more miners are willing to
provide their computer power. In fact, Nakamoto describes a ’fee market’ that should
gradually substitute the reward of new BitCoins to sustain a healthy mining industry.
Some other major differences with fiat currencies include a fixed maximum supply of 21
million units, the absence of a related interest rate and no link to a geographical region.
Dwyer (2015) provides an extensive overview of the principles behind BitCoin and other
cryptocurrencies. Due to BitCoin’s limited supply, mining costs (in the form of computer
power) and absence of an interest rate, it has many similarities with precious metals.
Cryptocurrencies are perfectly suitable for high-frequency trading. Firstly, the speed
of transactions is much higher compared to that of fiat currencies. Transactions will take
less than 10 minutes, independent of the location of the wallets and the size of the trans-
action. Secondly, costs of transactions between cryptocurrency wallets are very low and
independent of their size and location. The speed and costs of a transaction between
cryptocurrencies and fiat currencies depend on the exchange, but are preferred over trans-
actions between fiat currencies (Kim 2017). Moreover, the network is open 24-hours a day
and does not bear transaction size restrictions. The combined market capitalization of
all cryptocurrencies is rapidly increasing and currently exceeds USD 310 billion.5 With a
market capitalization of USD 168 billion, BitCoin is currently the largest cryptocurrency.
Almost 80% of the BitCoin trades are driven by high-frequency traders (Chen et al. 2017).
Financial research on cryptocurrencies is limited and calls for extension. The academic
literature on cryptocurrencies is primarily focused on the legal (Plassaras 2013) and ethical
(Angel & McCabe 2015) aspect of digital currencies. Nevertheless, the attention for the
financial and economical literature on cryptocurrencies is increasing. Balcilar et al. (2017)
provide a brief overview on the literature regarding the financial and speculative character-
istics of BitCoin. Polasik et al. (2015) show that the price of BitCoin is positively related
with the number of Google searches and news articles related to BitCoin, which might
support momentum trading strategies. Briere et al. (2015) show that BitCoin investments
can dramatically improve the risk-return trade-off of well-diversified portfolios. Urquhart
(2017) shows that the BitCoin market is not weakly efficient between August 2010 and July
2016. Balcilar et al. (2017) show that BitCoin volume can predict returns, which might
5
https://coinmarketcap.com/ as of 28-11-2017

4
support technical trading rules based on volume. The increased academic attention for
cryptocurrencies coincides with the increased awareness by central banks. According to
Miller et al. (2017), China has announced trials of its own prototype cryptocurrency, being
the first central bank issuing a digital currency. The ECB and the Bank of Japan have
launched a study regarding the use of a distributed ledger and the Dutch central bank has
even created its own digital currency in order to better understand the principles and po-
tential use. As digital currencies receive more attention from academics and practitioners,
a comprehensive study towards the profitability of technical analysis in the cryptocurrency
market is needed.
The purpose of this paper is to examine whether technical analysis in the cryptocurrency
market is significantly profitable and persistently exploitable. We examine a universe of
3312 technical trading rules on the 5-minute USD/BTC spot exchange rate between January
2013 and July 2017. To the best of our knowledge, this paper is the first which evaluates
a universe of trading rules on the BitCoin price movement. Both the stepM test and
SSPA test report numerous trading rules which significantly outperform the buy-and-hold
benchmark. Moreover, the presence of transaction costs does not necessarily eliminate
profitability. White’s Reality Check and the SPA test reveal that the strategy with the
best performance is highly significant. Nonetheless, profitability appears to decline over
time, which may serve as evidence for increased efficiency of the cryptocurrency market.
Consistent with the stylized facts mentioned above, returns are unstable over time and
higher during more volatile periods. Although profitable trading strategies are identified,
individual trading rules used in isolation can not be expected to predict all price movements.
To determine whether combining information of multiple trading strategies outperforms
individual trading rules, a neural network classification algorithm is trained to combine
trading signals. The resulting combined strategies outperform the individual trading rules
based on return, Sharpe ratio and break-even transaction costs. Hence, it is concluded that
technical analysis in the cryptocurrency market is significantly profitable and exploitable.
The findings of this study are relevant for all traders, regulators and academics involved in
the cryptocurrency market.
The remainder of this paper proceeds as follows. Section 2 specifies the universe of
technical trading rules considered in this study. In section 3 we describe the data and
provide descriptive statistics. Section 4 introduces the performance metrics used to assess
the performance of the trading strategies. Section 5 provides an overview of the applied
methods to mitigate data-snooping effects. In section 6 we report the main empirical results.
Section 7 introduces neural networks and provides the results on combining individual
trading rules. Sections 8 and 9 conclude, discuss the paper and provide recommendations
for further research.

2 Universe of Technical Trading Rules

The tested universe of technical trading rules consists of 3312 strategies. We include seven
classes of trading rules, including trend-following and trend-reversal strategies. Since the
data-snooping correction is only relative to the set of evaluated strategies, the design of the
trading rule universe is important. This section specifies the universe of technical trading
rules and clarifies the rationale behind all the strategies.
The design of the universe of trading rules is important. As mentioned by Sullivan
et al. (1999), outperforming trading rules only have consequences for market efficiency when
the trading rules were known during the sample period. Therefore, all classes of trading
rules under consideration are drawn from academic literature published before the start of

5
the sample period. As described by Sullivan et al. (2001), two errors, over-searching and
under-searching, can occur in specifying the universe of trading rules. First, as result of the
survivorship bias, we may have neglected unsuccessful trading rules that were filtered out
of the recent literature through the sequence of studies focusing on successful strategies.
Inference based solely on the set of successful and surviving strategies is misleading, as
these strategies are drawn from a larger universe. The data-snooping adjustment would
not account for the full set of trading rules and the estimated p-values of the best-performing
rules would be biased towards zero. Secondly, we may have included strategies that were
never considered by investors, reducing the power of the data-snooping tests. Fortunately,
Sullivan et al. (2001) present a heuristic argument why addition of uninformative rules
will not lead to large changes in p-values once the universe is large.6 To circumvent both
concerns, we select a large variety of trading rules and parameterizations which is consistent
with the literature.
Investors’ reaction to past performance depends on their believe in momentum. In-
vestors believing in momentum adopt trend-following trading rules which generate signals
in the same direction as the price deviation from the current state. These investors ex-
pect that trends will continue in the same direction as the previous movement. Investors
adopting trend-reversal strategies believe that price deviations from the current state are
temporary and that the price will return to its original state. Hence, trend-reversal strate-
gies generate signals in opposite direction as the price deviation from the original state.
Trend-following and trend-reversal strategies are both well-documented and supported by
academic literature, see e.g. Menkhoff & Taylor (2007) and Menkhoff et al. (2012). The
performance of momentum strategies primarily depends the trading horizon (Jegadeesh &
Titman 1993) and region (Fama & French 2012). As this is the first paper evaluating tech-
nical trading rules in the BitCoin market, we test both schools of thought. Therefore, and
in line with Hsu & Kuan (2005) and Chicaroli & Pereira (2015), we include the contrarian
version of most strategies in the universe of trading rules.7
We employ seven classes of technical trading rules. The filter, moving average, support
and resistance, channel breakout, and oscillator trading rules aim to exploit trends in
prices. These five classes of trading rules have been widely used by foreign exchange
market professionals and have been studied extensively by academics.8 The remaining
two classes of trading rules, on-balance volume averages and bollinger bands, are based
on volume and price volatility, respectively. The full universe of the K = 3312 trading
rules is given in table 1. Each trading rule k ∈ K generates trading signals, produced and
executed at time t, resulting in positions sk,t . The trading positions equal 1 for a long
position and −1 for a short position, it is not possible to take a neutral position. If no
trading signal is generated, or if the same signal compared to time t − 1 is generated, the
current position is maintained.9 Note that taking opposite positions compared to sk,t is
transforming the trading rule from a trend-following to a trend-reversal strategy, or vice
versa. In this manner we included the contrarian version of most strategies in the universe.
6
Moreover, the SPA test answers this concern by excluding the performance metrics of uninformative
strategies when testing for trading rule significance, see section 5.
7
Inclusion of contrarian strategies for which no reasonable rationale exists would result in over-searching
and are therefore excluded from the universe.
8
See Sweeney (1986), Schulmeister (1987), Brock et al. (1992), Levich & Thomas (1993), Neely (1997),
LeBaron (1999), Sullivan et al. (1999), Qi & Wu (2006), Schulmeister (2009) and Hsu et al. (2016)
9
We would like to make a clear distinction between what we call trading signals and positions. Trading
signals can be long (1), hold (0) and short (-1) and trigger the trading positions sk,t . Trading positions can
only be long (1) and short (-1). For example, a long (1) signal is generated, but thereafter all signals are
hold (0) signals. As the investor will have a long position during his complete trading period, the resulting
position vector consists of ones only. The resulting signal vector is a zero vector with a 1 as first element.

6
All trading rules make use of threshold parameters to separate weak signals from stronger
signals. The parameterizations of the trading rules are given in table 17 in the appendix.
The classes of trading rules are explained in more detail below.
Table 1: Full universe of technical trading rules

Class of trading rule Number of parameterizations

Standard strategies 225
Filter 225
Moving average 396
Support and resistance 270
Channel breakout 360
On-balance volume average 495
Bollinger bands 180
2106
Contrarian strategies
Moving average 396
Support and resistance 270
Channel breakout 360
Bollinger bands 180
1206
Total 3312

The full universe of technical trading rules and the number of parameterizations within each class of
trading rules. The contrarian rules generate the exact opposite trading positions compared to their
standard counterpart.

Filter rules attempt to follow trends by buying (selling) a currency whenever it has
risen (fallen) by a given percentage after the most recent low (peak). Filter rules were first
proposed by Alexander (1961) and tested extensively by academics thereafter, of which
Fama & Blume (1966) and Sweeney (1988) are the most prominent. A filter rule is specified
as follows. If the price of the foreign currency (BitCoin) exceeds its most recent low by a
predefined threshold of x%, borrow the local currency (dollar) and buy the foreign currency.
When the price of the foreign currency moves down at least x% from a subsequent high,
short sell the foreign currency and buy the local currency with the proceeds. The position
is maintained until the price of the foreign currency exceeds its most recent low by x%
again, after which the above mentioned strategy is repeated. Such a x% filter rule may be
expressed as (Menkhoff & Taylor 2007):
 n o


 pt − pt−i |i = min[i > 0|(pt−i − pt ) < 0 ∧ (pt−i − pt−i−1 ) < 0]


 1 if n o >x
pt−i |i = min[i > 0|(pt−i − pt ) < 0 ∧ (pt−i − pt−i−1 ) < 0]




 n o
sk,t pt−i |i = min[i > 0|(pt−i − pt ) > 0 ∧ (pt−i − pt−i−1 ) > 0] − pt

 −1 if o >x

 n



 pt−i |i = min[i > 0|(pt−i − pt ) > 0 ∧ (pt−i − pt−i−1 ) > 0]


sk,t−1 else


where pt is the price (exchange rate) of the foreign currency at time t and where i ∈ Z.
Moreover, following Sullivan et al. (1999), three variations are considered:

7
 1. Redefining the most recent high (low) as the highest (lowest) price over the e most
recent time intervals,

2. Requiring the buy or sell signal to remain valid for a predefined number of time
intervals d before a trade is executed,

3. Holding a given position for at least a predefined number of time intervals c, ignoring
all generated signals.

The rationale behind defining alternative extrema is to neglect the ‘noise’ of recent small
price movements when past highs or lows are more informative. In this manner, only large
deviations will generate trading signals. The rationale behind both the time delay and
holding period is to disregard the noise of frequent price fluctuations in order to find a
better balance between capturing all price trends and reduction of the number of trades
(transaction costs). Implementation of the time delay period aims to detect structural
trends and to neglect single movements, separating temporary from persistent signals. A
holding period assures that signals immediately after a trade are ignored and aims to
exploit longer trends. Note that during the holding period, the ignored signals can act as
the required signals to meet the time delay period for a potential next trade. As a result, if
both the delay filter and holding period are active, an opposite trade can occur immediately
after a holding period. In the remainder of the paper, an x% filter rule with alternative
extrema of length e, a delay filter of length d and a holding period of length c is defined as
F (x, e, d, c). Since the filter rules generate trade signals in the same direction as the last
price deviation, the filter rules are classified as trend-following. Trend-reversal filter rules
are not described in the literature and a reasonable rationale for such rules is not reported.
Therefore, trend-reversal filter rules are not included in the set of contrarian strategies.
Figure 1 clarifies the different variations by illustrating the trading positions of the filter
rules. This paragraph explains the figures in more detail. Figure 1a demonstrates a basic
x% filter rule with none of the variations applied. A sell signal is generated and executed
when the price has fallen by x% after the first peak, indicated with an ‘S’ in the graph.
The price increase after the first local minimum does not generate a buy signal as the
increase does not exceed x%. The price decrease after the second local maximum generates
a sell signal, however the trade is not executed as the investor already has a short position
at the time of the signal. When the price has increased over x% after the second local
minimum a buy signal is generated and executed, indicated with a ‘B’ in the graph. Figure
1b demonstrates the trade signals of a filter rule for which the high and lows are redefined
as the extrema over the e most recent time intervals. For the price movement given in the
figure, the buy and sell signals are equal to that of the basic filter rule. Both the buy and
sell signal remain valid as the first peak and the second low are both the extrema when
considering the e most recent time intervals. Figure 1c demonstrates the trade signals of
a filter rule with a delay filter of length d. As the sell signal after the first peak does not
remain valid for at least d periods, no trade is executed. The sell signal after the second
peak remains valid for at least d periods and a short position is taken at the time indicated
with an ‘S’ in the graph. Similarly, d periods after the second local minimum, a buy signal
is generated and executed. Figure 1d demonstrates the trade signals of a filter rule with a
holding period. After the short position is taken at the time indicated with an ‘S’ in the
graph, a holding period of length c is active in which all buy and sell signals are ignored.
When the holding period has ended, a buy signal is generated and executed, indicated with
a ‘B’ in the graph.

8
 Figure 1: Signal generation a filter trading rule and its variations

(a) F (x, −, 0, 0) (b) F (x, −, 0, 0) (c) F (x, −, 3, 0) (d) F (x, −, 0, 6)

These figures present the trade positions sk,t of the filter rule and its variations. The line represents
the price movement of the foreign currency pt . A ‘B’ indicates a buy signal (long position) and
an ‘S’ a sell signal (short position). In this example, the investor starts with a long position in
the foreign currency. Figures 1b, 1c and 1d present the trading signals of filter rule with redefined
extrema, a delay filter or a holding period as described above.

Moving average rules attempt to follow trends and identify imminent trend breaks.
Unlike filter rules, moving average trading rules aim to smooth out volatile time series. The
use of moving averages in trading rules was first described by Gartley (1935) and tested
extensively thereafter, e.g. Brock et al. (1992). In a more recent study, Schulmeister (2009)
provides evidence that moving average rules in the stock market are only profitable when
adopting an intra-day trading frequency. Hsu et al. (2016) report excess returns in the
foreign exchange market when using moving average rules on daily data, while Frömmel &
Lampaert (2016) find significant profits using 10 to 60-minute returns. Many different types
of moving average rules are used by practitioners and academics, but, following Sullivan
et al. (1999), we only examine double moving average rules.
Double (cross-over) moving average rules consist of one short-term and one long-term
single moving average. Let the single moving average over j time intervals at time t be
defined as
j−1
1X
M At (j) = pt−i , (2.1)
j
i=0
where j, i ∈ Z. Double moving average rules are specified as follows. Let q < j. If
M At (q) exceeds M At (j) more than b%, borrow the local currency and buy the foreign
currency. When M At (q) falls below M At (j) more than b%, short sell the foreign currency
and buy the local currency. Thus, a strong upward (downward) penetration of the long-
term moving average by the short-term moving average is regarded as the initiation of an
upward (downward) trend and hence a buy (sell) signal is generated. Figure 2a clarifies the
buy and sell signals of the double moving average rule for q = 3 and j = 5. Such a double
moving average trading rule may be expressed as (Menkhoff & Taylor 2007):

1
 if M At (q) > (1 + b)M At (j) (2.2)
sk,t −1 if M At (q) < (1 − b)M At (j) (2.3)

sk,t−1 else


with q < j. In line with Sullivan et al. (1999), we impose a time delay period of length d
and holding period of length c on the moving average rules. In the remainder of the paper, a

9
double moving average rule with a short moving average of length q, a long moving average
of length j, a threshold of b%, a delay filter of length d and a holding period of length c
is defined as M A(q, j, b, d, c). The complexity of moving average rules can be intensified
easily, e.g. analyzing the slope of the penetration or imposing exponential moving averages,
but this paper only considers the basic and most widely used rules.
The double moving average trading rules as defined above are trend-following strategies:
when prices strongly increase (decrease), a long (short) position is taken. Although most
literature specifies moving average rules as trend-following, trend-reversal moving average
rules are studied as well. For example, Balsara et al. (2009) find that contrarian double
moving average rules generate excess returns in the US stock market, while trend-following
double moving average rules under-perform the buy-and-hold benchmark. The rationale
behind a contrarian double moving average rule is that any deviation from the long-term
moving average is temporary and likely to be followed by a reversion in price (mean-
reversion). In the remainder of the paper, a contrarian double moving average rule is
denoted as M Ac (q, j, b, d, c).

Support and resistance rules attempt to identify levels below (above) which the price
pt appears to have difficulty falling (rising). These levels are called the support and re-
sistance level, respectively, and are often defined as the local minimum and maximum.
The rationale behind support and resistance levels is that investors aim to sell (buy) at
a peak (low), which will cause resistance to a price rise (drop) above (below) a previous
peak (low). A breakout through the support (resistance) level is considered as a trigger
for further price movements in the same direction, hence a trend-following sell (buy) signal
is generated. Support and resistance rules are initially described by Wyckoff (1910) and
tested intensively thereafter, e.g. Brock et al. (1992) report excess returns by using support
and resistance rules on daily data in the equity market.
The support and resistance rules are specified as follows. If the price of the foreign
currency exceeds the maximum price over the previous n time intervals at least with b%,
borrow the local currency and buy the foreign currency. When the price of the foreign
currency drops below the minimum price over the previous n time intervals at least with
b%, short sell the foreign currency and buy the local currency. A support and resistance
trading strategy may be expressed as:

if pt > (1 + b) max({pt−i }ni=1 )


1
 (2.4)
n
sk,t −1 if pt < (1 − b) min({pt−i }i=1 ) (2.5)

sk,t−1 else


for n ∈ Z. Figure 2b illustrates the trading positions of a trading rule with a support
(resistance) level of the minimum (maximum) over the previous n = 5 time intervals.
Similar as before, we impose a time delay filter and holding period. In the remainder of
the paper, a support and resistance rule evaluated over n periods, with a threshold of b%,
a delay filter of length d and a holding period of length c is defined as SR(n, b, d, c).
The support and resistance rules as defined above are trend-following strategies. Nonethe-
less, Osler (2000) studied support and resistance trading rules on 1-minute exchange rate
data and finds significant evidence of predictive power regarding trend-reversal support and
resistance rules. The rationale behind a contrarian support and resistance rule is that any
breakout through the support and resistance level indicates that the currency is mispriced
and is likely to be followed by a reversion in price. Although contrarian support and resis-
tance rules may be interpreted as similar to filter rules, there is a difference. Filter rules
generate a trend-following signal after falling below a maximum, while contrarian support

10
and resistance rules generate a trend-reversal signal after exceeding a maximum. In the re-
mainder of the paper, a contrarian support and resistance rule is denoted as SRc (n, b, d, c).

Channel breakouts occur when the price moves outside the boundaries of a channel
defined by the minimum and maximum over the previous n time intervals. A channel only
occurs when the maximum of the previous n time intervals is within x% of the minimum of
the previous n time intervals, excluding the current price. Similar breakout channels were
first described by Donchian (1960). Hsu et al. (2016) show that channel breakout strategies
on daily data can be profitable in the foreign exchange market.
The channel breakout strategies are specified as follows. If the price of the foreign cur-
rency penetrates the upper bound, a buy signal is generated. When the price penetrates the
lower bound, a sell signal is generated. A channel breakout trading rule may be expressed
as:

max({pt−i }ni=1 )

1 if pt > max({pt−i }ni=1 ) ∧ < (1 + x) (2.6)


min({pt−i }ni=1 )




sk,t max({pt−i }ni=1 )
−1 if pt < min({pt−i }ni=1 ) ∧ < (1 + x) (2.7)
min({pt−i }ni=1 )





sk,t−1 else


for n ∈ Z. Figure 2c illustrates the buy and sell signals of a channel breakout strategy
evaluated over n = 5 time intervals. Similar as above, we include a percentage band b and
a holding period of length c. We exclude a delay period d since it is unlikely that after a
trade signal a new channel occurs. In the remainder of the paper, a channel breakout rule
evaluated over n time intervals, with a threshold of x%, a percentage band b and holding
period of length c is defined as CB(n, x, b, c).
The channel breakout rules as defined above are trend-following strategies. Nonetheless,
Balsara et al. (2009) report profitable trend-reversal channel breakout strategies. Similar
as compared to contrarian support and resistance rules, the rationale behind contrarian
channel breakout strategies is that breakouts might indicate mispricing of the currency.
Contrarians might believe that the intrinsic value of the asset lies within the boundaries of
the channel and that deviations are temporary. In the remainder of the paper, a contrarian
channel breakout rule is denoted as CB c (n, x, b, c).

Oscillator trading rules are designed to detect price movements that have been too
rapid and for which a correction is imminent. A widely used form is the relative strength
indicator (Levy (1967), Wilder (1978)). The relative strength indicator (RSI) measures the
strength of price increases relative to the strength of price decreases over a fixed period.
The indicator may be expressed as (Menkhoff & Taylor 2007):

Ut
RSIt = 100 (2.8)
Ut − Dt
where
m−1
(pt−i − pt−i−1 )1pt−i −pt−i−1 >0 ,
X
Ut = (2.9)
i=0
m−1
|pt−i − pt−i−1 |1pt−i −pt−i−1 <0
X
Dt = (2.10)
i=0

11
Figure 2: Signal generation of moving average, support & resistance and channel breakout trading
rules

(a) M A(5, 3, b, 0, 0) (b) SR(5, b, 0, 0) (c) CB(5, x, 0, 0)

Figure 2a presents the trade positions sk,t of the double moving average rule. The dashed line
represents M At (5) and the dotted line M At (3). Figure 2b illustrates the trade positions of a strategy
with a support (resistance) level of the minimum (maximum) over the previous n = 5 time intervals.
The dash-dot lines display the support and resistance levels. Figure 2c presents the trading positions
of a channel breakout rule evaluated over n = 5 time intervals. The solid line represents the price
movement of the foreign currency pt . A ‘B’ indicates a buy signal (long position) and an ‘S’ a
sell signal (short position). In this example, the investor starts with a long position in the foreign
currency.

and where m ∈ Z denotes the number of time intervals under consideration. The trading
rule used in this study is specified as follows. If the relative strength indicator exceeds
50 + v for at least d time periods, the foreign currency is considered overbought and a sell
signal is generated. If the RSI drops below 50 − v for at least d time periods, the foreign
currency is considered oversold and a buy signal is generated. The RSI trading rule may
be expressed as:

1
 if RSIt < 50 − v (2.11)
sk,t −1 if RSIt > 50 + v (2.12)

sk,t−1 else


Common values of the indicator used to detect overbought or oversold signals are 70 and
30, respectively. Figure 3a illustrates the positions of a RSI trading rule with m = 5.
Similar as above, a time delay filter and holding period are included. In the remainder of
the paper, RSI trading rule evaluated over m time intervals, with a threshold of v, a delay
filter of length d and a holding period of length c is defined as RSI(m, v, d, c).
The RSI trading rules are trend-reversal trading rules. As the literature does not cover
trend-following RSI trading rules, inclusion of these rules would result in over-searching.
Hence, trend-following RSI strategies are not included in the universe of trading rules.

12
On-balance volume average rules include information on traded volume in the de-
termination of trading positions. The on-balance volume average is introduced by Gartley
(1935) and popularized by Granville (1963). The on-balance volume indicator is constructed
by taking the cumulative sum of volumes from time intervals in which the price increases
and subtracting the cumulative sum of volumes from time intervals in which the price de-
creases. In this manner, the trading rule is able to separate high volume signals from the
weaker low volume signals. The rationale behind the on-balance volume indicator is that
volume eventually drives prices, even if the magnitude of the price movements is minimal.
To generate trading signals, the moving average rules introduced above are applied to the
on-balance volume indicator. The on-balance volume indicator is defined as:
t
vi (1pi >pi−1 − 1pi ≤pi−1 )
X
OBVt = (2.13)
i=0

where vt is the traded volume between time t − 1 till t. The on-balance volume moving
average M AOBV
t (j) is defined as:
j−1
1X
M AOBV
t (j) = OBVt−i . (2.14)
j
i=0

Then, the trading positions are generated by:


1
 if M AOBV
t (q) > (1 + b)M AOBV
t (j) (2.15)
sk,t −1 if M AtOBV OBV
(q) ≤ (1 − b)M At (j) (2.16)

sk,t−1 else


with q < j and b is a percentage band filter. Figure 3b illustrates the trading positions of
a general on-balance volume moving average trading rule, with q = 3 and j = 5. Similar
as above, we include a time delay filter d and holding period c. In the remainder of the
paper, on-balance volume average trading rules with a short moving average of length q, a
long moving average of length j, a threshold of b%, a delay filter of length d and a holding
period of length c is defined as OBV (q, j, b, d, c).
The on-balance volume average trading rules are trend-following trading rules. As the
literature does not cover trend-reversal on-balance volume average trading rules, inclusion
of these rules would result in over-searching. Hence, trend-reversal on-balance volume
strategies are not included in the universe of trading rules.

Bollinger band rules incorporate information on price volatility in the generation of

trading signals. Bollinger bands are developed by Bollinger (1992) and widely used to de-
termine whether prices are relatively high or low. Coakley et al. (2016) show that bollinger
band trading rules remain robustly profitable across 22 daily exchange rates after mitigat-
ing data-snooping effects. The bollinger band indicator consists of three bands: a simple
moving average as a measure of the price trend and an upper and lower band determined
by price volatility. The moving average is defined as in (2.1). The standard deviation at
time t over the previous j time intervals is defined as:
v
u j−1 
u1 X 2
σt (j) = t pt−i − p̄t (j) (2.17)
j
i=0

where
j−1
1X
p̄t (j) = pt−i . (2.18)
j
i=0

13
The upper and lower band are then defined as k standard deviations above and below the
moving average. In statistical terms, for k = 2, around 95% of the price movements should
be contained in the band. The trading positions are generated by:

1
 if pt < M At (j) − kσt (j) (2.19)
sk,t −1 if pt > M At (j) + kσt (j) (2.20)

sk,t−1 else


Similar as above, we include a time delay filter and holding period. In the remainder of the
paper, bollinger band trading rules with a moving average of length j, a bandwidth of k
standard deviations, a delay filter of length d and a holding period of length c is defined as
BB(j, k, d, c). Figure 3c clarifies the trading signals of a bollinger band trading rule with
j = 5 and k = 1.
The bollinger band strategies as defined above are trend-reversal trading rules. Nonethe-
less, Zarrabi et al. (2017) finds profitable trend-following bollinger band trading rules in the
foreign exchange market between 1994 and 2012. Similar as compared to the trend-following
support and resistance trading rules, the rationale behind trend-following bollinger band
rules is that a breakout through the bands is considered as a trigger for further price
movements in the same direction. Large price deviations relative to low volatility are
then considered as structural breaks in price. In the remainder of the paper, a contrarian
bollinger band rule is denoted as BB c (j, k, d, c).

Figure 3: Signal generation of RSI, on-balance volume average and bollinger band trading rules

(a) RSI(5, v, 0, 0) (b) OBV (5, 3, b, 0, 0) (c) BB(5, 1, 0, 0)

Figure 3a presents the trading positions sk,t of the RSI trading rule with m = 5. The dashed line
represents the RSI indicator and the dotted lines the overbought and oversold boundaries, all plotted
on the right y-axis. Figure 3b present the trading signals of the on-balance volume moving average
trading rule with q = 3 and j = 5. The dotted line represents the OBV indicator, the dashed line the
long moving average and the dash-dot line the short moving average, all plotted on the right y-axis.
Figure 3c presents the trading positions of the bollinger band rules. The dashed lines represents a
moving average with j = 5 and the dotted lines the corresponding standard deviations, with k = 1.
The solid line represents the price movement of the foreign currency. B indicates a buy signal (long
position) and S a sell signal (short position). In this example, the investor starts with a long position
in the foreign currency.

14
3 Data
The dataset consists of the USD/BTC spot exchange rate between 01-01-2013 and 17-07-
2017. Raw transaction data from the Bitstamp exchange is converted to 5-minute intervals
in order to calculate returns with respect to closing prices. This section provides descriptive
statistics and analyses of the dataset and returns.
The raw tick-by-tick data is collected from Bitcoincharts.com10 and ranges from
03-09-2011 to 17-07-17. The dataset consists of transaction prices, volume and unix time
rounded to the nearest second of all trades on the Bitstamp exchange. We selected the
Bitstamp exchange due to its size11 , liquidity and safety (Bouri et al. 2017). The tick-data
is re-sampled at 5-minute time intervals to calculate closing prices and returns.12 Before
2013, the BitCoin was characterized by low trading volume and extreme volatility, see ta-
ble 19 in the appendix. As the current BitCoin market is more mature, more liquid and
practically a different industry compared to before 2013, we exclude these years from our
analysis. As we conduct methods to mitigate data-snooping effects and we do not estimate
any parameters, it is not necessary to perform out-of-sample tests. Hence, the full sample
period ranges from 01-01-2013 to 17-07-2017.
Table 2 provides descriptive statistics regarding traded volume, prices and log returns.
Figures 4a, 4b and 4c display the evolution of volume, price and returns over time. The
BitCoin has appreciated drastically against the dollar, from USD 12.8 in 2013 to USD 2980
in 2017. The log returns are highly volatile and positively skewed. Interestingly, when
evaluating the log returns on an hourly basis, the skewness is negative. Apparently, the
number of extreme positive events is larger compared to extreme negative events, while the
impact of the negative events is larger. The returns are strongly leptokurtic distributed,
indicating relatively many extreme deviations from the mean. The non-normality of the
returns is confirmed by a Jarque-Bera test. According to the Augmented Dickey Fuller
unit-root test, the returns are stationary. The Ljung-box Q-test indicates significant au-
tocorrelation in the returns. Compared to the summary statistics of the 5-min exchange
rate of the USD against the EUR, GBP, JPY, AUD, CAD, reported in Kleinbrod & Li
(2017), the coefficients of variation are comparable. The extreme excess kurtosis is the
main difference between the BTC/USD and the fiat currency exchange rates.
Figure 5a and 5b illustrate the intra-day traded volume and volatility pattern, where
volatility is measured as absolute return. The investor base of the USD/BTC trades on
Bitstamp is primarily situated in the United States and Europe. As illustrated in figure 5a,
traded volume exceeds average daily volume around 08:00 UTC, at the start of the regular
trading hours in Europe. Volume peaks between 13:00 and 16:00 UTC, at the beginning of
the trading day in the United States. After 16:00 UTC, traded volume drops together with
the closing of most European exchanges. The U.S. exchanges close around 21:00 UTC and
we observe that at the same time the traded volume falls below the average. The lowest
average volume is between 03:00 and 06:00 UTC, outside trading hours in both Europe and
the United States. Similar results are found by Eross et al. (2017) for the BTC-e exchange.
Comparable as in other markets, it is observed that traded volume and price volatility move
together (Karpoff 1987). Table 3 provides Pearson’s correlation coefficient ρ for correlation
between volume and absolute returns.
10
https://api.bitcoincharts.com/v1/csv/ provides the complete BitCoin trade history of numerous ex-
changes in several currencies and is used in most academic literature as data source.
11
As of 07-09-2017, Bitstamp is the third largest exchange based on the last 6-months traded volume in
USD/BTC, https://bitcoinity.org/markets/list?currency=USD&span=6m
12
23-06-2016 has a questionable observation of pt = 1.5, while surrounding prices range around pt = 574.
The observation is treated as incorrect and replaced with the average price of the surrounding interval.

15
 Table 2: Descriptive statistics of the full sample period

Traded volume (BTC) 19 729 718

Number of trades 12 374 508
5-minute observations 477 773
Prices (USD)
Mean 526.4
Standard deviation 486.9
Minimum 12.8
Maximum 2980.0
Log returns (USD)
Mean (bps) 0.107
Standard deviation (bps) 44.15
Minimum (bps) −3689.3
Maximum (bps) 6108.5
Skewness 4.52
Kurtosis 1181.4
Augmented Dickey-Fuller test -757.5
Ljung-Box Q test 7676.9

Descriptive statistics of the USD/BTC exchange rate between 01-01-2013 and 17-07-2017.

Figure 4: BTC/USD traded volume, price and log return

(a) Traded volume (B) (b) Price ($)

(c) Returns ($)

Figure 4a illustrates the traded volume on a 5-min frequency basis, measured in BitCoin, traded on
Bitstamp between 13-09-2011 and 17-07-2017. Figure 4b shows the closing prices during the same
period. Figure 4c shows the 5-minute log returns over the sample period.

16
 Figure 5: Average intra-day traded volume and volatility (UTC ±00:00)

(a) 5-minute traded volume (b) 5-minute absolute returns

Figure 5a shows the average 5-minute traded volume per day between 01-01-2013 and 17-07-2017.
The dotted line represents the overall average volume. Figure 5b gives the average 5-minute absolute
returns per day between 01-01-2013 and 17-07-2017. The time standard UTC is interchangeable with
Greenwich Mean Time.

Table 3: Correlation between traded volume and absolute returns

Sample ρ p-value
Including zero-volume observations 0.4064 0.000
Excluding zero-volume observations 0.4004 0.000

Pearson’s correlation coefficient ρ and its significance between 5-min traded volume and absolute
returns from 01-01-2013 to 17-07-2017.

4 Performance Metrics
This section provides an overview on how the performance of the technical trading rules
is measured. The performance of the trading strategies is evaluated using three criteria:
mean excess return, Sharpe ratio and Sortino ratio. The use of the mean excess return and
Sharpe ratio metrics is common practice in the literature, see e.g. Sullivan et al. (1999), Qi
& Wu (2006) and Hsu et al. (2016). In contrary, the Sortino ratio is rarely used to evaluate
technical trading rule performance, but may provide valuable new insights. Performance is
measured based on excess performance with respect to a buy-and-hold strategy.
Investment strategies in the foreign exchange market are different compared to the eq-
uity market in the sense that short and long positions in currencies are obtained differently
compared to stocks. A long position in the foreign currency is obtained by borrowing the
local currency in order to buy the foreign currency. During this investment, the investor
pays the local interest rate while earning the interest rate of the foreign currency. To switch
from a long position to a short position, first the foreign currency is converted to the local
currency to repay the borrowed local currency. Secondly, the foreign currency is borrowed
and converted to the local currency. Now the investor pays the foreign interest rate and
receives the local interest rate. Therefore, generally in the academic literature, the excess
return of trading rule k at time t, excluding transaction costs, is defined as in Qi & Wu

17
(2006) by " #
 
pt
e
rk,t = ln + i∗t − it sk,t−1 , (4.1)
pt−1
where it and i∗t are the local and foreign risk-free interest rate from time t − 1 to t, respec-
tively. However, in this paper the interest rate differential is excluded from our analysis.
First of all, as mentioned by Qi & Wu (2006), most authors ignore the interest rate differ-
ential due to its limited impact on the excess returns of the trading rules. Sweeney (1986)
show that excess returns depend primarily on movements in the exchange rate and Qi &
Wu (2006) mention that consideration of the interest rate differential in their study results
in similar findings. Secondly, the interest rate on U.S. T-bills is historically low during the
sample period and negligible compared to exchange rate movements of the BitCoin and
transaction costs. Since the effect of the interest rate differential is opposite between short
and long positions, the impact flattens out even more. Finally, no commonly accepted Bit-
Coin interest rate yet exists. Moreover, although it is possible to borrow and lend BitCoins,
no reliable data on interest rates is available. Therefore, we define returns by
 
e pt
rk,t = ln sk,t−1 . (4.2)
pt−1

Transaction costs are not included in the returns yet. By reporting break-even transaction
costs, the reader can determine whether the trading rules are profitable based on the trans-
action costs applicable to the reader himself. The trading rules are tested for profitability
relative to a benchmark buy-and-hold strategy r0 . The benchmark strategy of having a
continuous long position (buy-and-hold) in the market is defined by:
 
pt
r0,t = ln .
pt−1

The performance of the trading strategies is evaluated using three criteria. The mean
excess return performance metric of trading rule k is defined as
T T
1X e 1X
Mke = rk,t − r0,t , (4.3)
T T
t=1 t=1

where T is defined as the number of observations in the sample period. The second per-
formance measure, the Sharpe ratio, measures the average excess return per unit of total
risk. The Sharpe ratio performance metric of trading rule k is defined as

Mks = sh(rk,t
e
) − sh(r0,t ) (4.4)

where the form of sh(.) is given by

h i
e
E rk,t
e
sh(rk,t )= r h i h i2 (4.5)
e )2 − E r e
E (rk,t k,t

and where E[.] is the expected value. The Sharpe ratio is often regarded as more informative
as it adjusts returns for associated volatility (Hsu et al. 2016). Suppose two trading rules
earn the same level of mean excess return, but the Sharpe ratio of the first trading rule is
twice as large. Doubling the position in the second trading rule doubles the return while
having the same level as risk compared to a position in the first trading rule. Nonetheless,

18
the Sharpe ratio has a few limitations. The Sharpe ratio does not distinguish between
upside and downside volatility. Extreme returns affect the Sharpe ratio drastically, often
undesirable in case of positive returns.
The Sortino ratio is a modification of the Sharpe ratio which estimates the average
excess return relative to downside deviation rather than standard deviation. Sortino &
Price (1994) argued that if there exists a minimal acceptable rate of return, only volatility
associated with returns below this level should be considered as risk. Even Markowtiz
(1991) recognized that the use of downside deviation is a more appropriate risk measure,
but that optimization computations were not possible at the time he developed the modern
portfolio theory. The Sortino ratio performance metric of trading rule k is defined as

Mkz = sor(rk,t
e
) − sor(r0,t ), (4.6)

where the form of sor(.) is given by

h i
e
E rk,t − rM AR
e
sor(rk,t )= s , (4.7)
1 PT h i2
e −r
min(rk,t M AR , 0)
T i=1

where rM AR is the minimal acceptable rate of return. Note that in the denominator we
determine deviations from rM AR instead of the mean return. In the remainder of the paper
we set rM AR = 0.

5 Data-snooping Tests
When evaluating a single hypothesis, the classical methods of hypothesis testing control the
probability of rejecting a true null hypothesis. However, when testing multiple hypotheses
on the same dataset, the probability of rejecting a true null hypothesis becomes greater than
the nominal significance level of the test. For a large number of hypotheses, the probability
of falsely rejecting a null hypothesis may even converge to 1. This phenomenon, referred to
as data-snooping, is widely recognized in the academic literature, but often not correctly
addressed (Park 2016). As we study a large universe of trading rules tested on the same
dataset, data-snooping effects are taken into account. This section provides a brief overview
of the literature and explains the four methods we adopt to mitigate data-snooping issues:
White’s Reality Check, the superior predictive ability test, the stepM test and the stepwise
superior predictive ability test.
Data-snooping biases are widely recognized in the academic literature as a significant
issue. A first notice of data-snooping effects is given by Jensen & Bennington (1970), who
wrote:

Likewise, given enough computer time, we are sure that we can find a mechanical
trading rule which ’works’ on a table of random numbers - provided of course
that we are allowed to test the rule on the same table of numbers which we used
to discover the rule. (p. 470)

Lo & MacKinlay (1990) were the first to quantify the effects of data-snooping. Brock
et al. (1992) acknowledge the dangers of data-snooping, but are not yet able to conduct
a comprehensive test across all trading rules and account for the bias. The first widely
accepted method to account for the effects of data-snooping, proposed in a seminal paper
by White (2000), is called White’s Reality Check. White’s Reality Check extends the

19
work of Diebold & Mariano (1995) and West (1996) regarding testing hypotheses about
predictive ability. Among others, Sullivan et al. (1999) and Qi & Wu (2006) use White’s
Reality Check to test the performance of a universe of trading rules in the stock and foreign
exchange market, respectively. Both studies conclude that the technical trading rules lose
their predictive power when controlling for data-snooping.
White’s Reality Check tests the null hypothesis that the model selected in a search over
K models has no predictive superiority over a given benchmark model. The test evaluates
the distribution of a performance measure considering the complete universe of models that
was used to select the best-performing model. The Reality Check tests the null-hypothesis

H0 : max E[Mk ] ≤ 0 (5.1)

k=1,...,K

to assess whether there exists a superior rule that does not outperform the benchmark.
Rejection will indicate that the best-performing trading rule achieves superior returns com-
pared to the benchmark. In order to ensure that population moments are well-defined, it
is assumed that Mk is stationary over time and strong α-mixing. Moreover, these assump-
tions validate the use of Politis & Romano (1994)’s stationary bootstrapping procedure
discussed below. Under these conditions the central limit theorem
√ d
 
Mk − E[Mk,t ] T −→ N (0, Ω) (5.2)

applies, where E[Mt,k ] is the expected performance measure at time t.13

Realizations of N (0, Ω) are drawn by applying the stationary bootstrap developed by
Politis & Romano (1994). By randomly drawing adjacent blocks of observations from a time
series and assembling them together, stationary pseudo-time series are created. The blocks
are sampled with replacement and excess observations in the last block are discarded. The
variable block length follows a geometric distribution. In line with Sullivan et al. (1999), we
set the parameters of this distribution such that the average block length q equals 10.14 In
line with the literature, this process is repeated B = 500 times. For each bootstrap sample
b = 1, ..., B, the performance metrics are determined using the re-sampled returns of the
trading rules and benchmark as in equations (4.3), (4.4) and (4.6). The corresponding
bootstrapped performance metrics are defined by M̄k,b e , M̄ s and M̄ z , respectively. The
k,b k,b
following statistic is constructed
√
V̄K,b = max (M̄k,b − Mk ) T , b = 1, . . . , B, (5.3)
k=1,...,K

which is the maximum of N (0, Ω) approximated by the stationary bootstrap. White con-
structs the following statistic to make proper statistical inferences
√
V̄K = max Mk T . (5.4)
k=1,...,K
13 e e s
For the mean excess performance metric, Mt,k is defined as rk,t − r0,t . For the Sharpe ratio, Mt,k is
e
defined as Mt,k /σ̂k , where σ̂k is the estimated standard deviation of the excess return of trading rule k. A
similar procedure is used for the Sortino ratio. For further details we refer to Hsu et al. (2010), page 472 -
473 and 478.
14
The optimal block length depends on the dependence of the data. Using the estimator for optimal block
length proposed in Politis & White (2004), it is observed that the optimal block length fluctuates heavily
for the return vectors of the different trading rules. A consensus on the optimal block length for the full
dataset is hard to determine. Fortunately, Sullivan et al. (1999) and Hsu & Kuan (2005) show that their
p-values are not sensitive to the choice of average block length q ∈ {100, 10, 2}. We set smoothing parameter
q = 10, which is similar as in the available related literate, including Sullivan et al. (1999), White (2000), Qi
& Wu (2006), Hsu et al. (2016) and Shynkevich (2016). We are aware that the literature does not consider
high-frequency data, but more comparable references are not available.

20
This statistic is based on equation (5.2), but obtained under the least favorable configura-
tion, i.e. zero mean. White’s p-value is then determined by comparing V̄K,b and V̄K . As
the maximum of a normal distribution is not normally distributed, the percentile method
is appropriate. White’s p-value is thus defined by
B
1 X
p W hite
= 1V̄K,b >V̄K . (5.5)
B
b=1

By taking the maximum value over all K trading rules in (5.4) and (5.3), White’s p-value
incorporates the bias of data-snooping from the search over K trading rules. For the
technical details and the derivation of equations (5.3), (5.4) and (5.5), in combination with
the stationary bootstrap, we refer to Appendix B in Sullivan et al. (1999), which replicates
the main results of White (2000).
The superior predictive ability test (SPA) is a modified version of White’s Reality Check
developed by Hansen (2005). Hansen observed that the null hypothesis of White’s Reality
Check is based on the least favorable configuration, which causes the test to lose its power
drastically when many poor and uninformative rules are included. Hansen shows that the
power can be improved substantially by using a re-centered and studentized test statistic.
He proposes to use the studentized test statistic V̄SP A defined as
 √ 
Mk T
V̄SP A = max max q ,0 (5.6)
k=1,...,K
ŵk2
√
to substitute (5.4), where ŵk2 is a consistent estimator of wk2 = var(Mk T ), calculated
using the bootstrap. The following statistic is defined to replace (5.3),
√
(M̄k,b − Mk ) T 1Mk ≥−A
 
V̄SP A,b = max max q , 0 , b = 1, . . . , B (5.7)
k=1,...,K
ŵk2
r
 w̄2 
where A = 2 k log log T . The p-value of the SPA-test is then defined as
T
B
1 X
pSP A = 1V̄SP A,b >V̄SP A . (5.8)
B
b=1

Hsu & Kuan (2005) and Lunde & Hansen (2005) both confirm that the SPA test is more
powerful than White’s Reality Check. For the technical details and derivation of the SPA-
test we refer to sections 2 and 3 of Hansen (2005).
A drawback of both White’s Reality Check and the superior predictive ability test
is that they only identify the significance of the best performing model, while an investor
might be interested in the significance of multiple trading rules. In order to circumvent this
drawback, Romano & Wolf (2005) introduced a stepwise version of White’s Reality Check,
the stepM test, which is able to identify all significant trading rules. The studentized stepM
test, building on the definitions and bootstrap described above, consists of the following
steps (Romano & Wolf 2005):
1. Construct the studentized empirical null distribution by first defining
√
 
M̄k,b − Mk
zb = T max , b = 1, . . . , B, (5.9)
k=1,...,K σk
where σk the standard deviation of the bootstrapped performance metrics of trading
rule k.

21
 2. Then rank {zb }b=1,...,B in descending order and collect its (1 − α)-th quantile, de-
noted
√ by q(α). For each trading rule k, reject the null-hypothesis at the n-th step if
T Mk
> q(α).
σk
3. Restart at step 1, letting Mk = 0 and M̄k,b = 0 for all trading rules k for which the
null hypothesis is rejected in step 2. If no null hypothesis is rejected for the remaining
k trading rules, stop and collect the significant trading rules.

The stepM test identifies all significant trading rules at a (1 − α)%-level. Although this is
a big advantage over the SPA test, it shares the same shortcomings in predictive power as
White’s Reality Check mentioned above. The natural extension, proposed by Hsu et al.
(2010), is the stepwise-SPA test, which combines the (studentized) stepM test with the
SPA test. The stepwise-SPA test follows the same steps as the stepM test given above,
expect that the definition of the empirical null distribution in (5.9) is replaced by
√ M̄k,b − Mk + Mk 1Mk ≤−A
 
zb = T max q , b = 1, . . . , B. (5.10)
k=1,...,K
ŵk2

Hsu et al. (2016) provides an overview on the implementation of the stepwise-SPA test.
We use all four data-snooping tests to identify the significance of the technical trading
rules. The SSPA en stepM test are used to identify which trading rules are significant at a
5% confidence level. We use both the SSPA and stepM test in order to validate the results,
gain insights regarding the relative power of both tests and observe whether the universe
of trading rules consists of many uninformative strategies. White’s Reality Check and the
SPA test are used to determine p-values of the best performing technical trading rule. Note
that White’s Reality Check and the SPA test are both related to their stepwise parent. If
the stepM test indicates zero significant strategies, pW hite of the best performing trading
rule exceeds 5%. Similarly, if the SSPA test indicates zero significant strategies, pSP A of
the best performing trading rule exceeds 5%.
White’s Reality Check, the SPA, stepM and SSPA test are the most popular, but not
the only tests available to handle the data-snooping bias. The main critic on the data-
snooping tests described above is their conservativeness, caused by strongly controlling the
false rejection of trading rules (Zarrabi et al. 2017). The false discovery rate methodology
(Benjamini & Hochberg (1995), Barras et al. (2010)) allows a number of false discoveries
to improve the power of the test. Bajgrowicz & Scaillet (2012) use the false discovery rate
to test the same universe of trading rules as Sullivan et al. (1999) and report little evidence
of significant profitability of the technical trading rules. As we aim to detect rules which
are exclusively not profitable due to luck, it is decided to exclude the false discovery rate
from the analysis. A model confidence set, proposed by Hansen et al. (2011), is a subset of
models that contains the best model with a certain confidence level. A major advantage of
this method is that it is not necessary to specify a benchmark model. However, as we have
a natural benchmark in our study, the model confidence set methodology is excluded.

22
6 Empirical Results
Both the SSPA and the stepM test report numerous trading rules which significantly out-
perform the buy-and-hold benchmark strategy at a 5% significance level. Moreover, the
best performing trading rule is highly significant and the presence of transaction costs
does not necessarily eliminate its profitability. Nonetheless, market efficiency seems to in-
crease over time. Section 6.1 and 6.2 report the significance and profitability of the trading
rules. Section 6.3 explains how trading rule performance behaves when transaction costs
are included. Section 6.4 describes the persistence of the results by reporting sub-sample
analyses.

6.1 Significance of the Technical Trading Rules

The SSPA and stepM test report numerous significant trading rules. Table 4 shows the
number of significant strategies per performance metric and class of trading rules as identi-
fied by the SSPA and stepM test at a 5% significance level.15 Considering the Sharpe ratio
performance metric, the SSPA test indicates 541 significant strategies, 16.3% of the tested
universe of trading rules.16 The number of significant strategies is fairly consistent over
the different performance metrics.17 The most striking observation is that trend-reversal
strategies seem to perform substantially better than trend-following trading rules. Ap-
parently, the BitCoin exchange rate shows trend-reversal (volatile) behavior at a 5-minute
frequency.18 In the remainder of this paper, we refer to the set of significant strategies as
the collection of strategies indicated as significant by the SSPA test using the Sharpe ratio
performance metric, unless stated otherwise.
When testing many strategies on high-frequency data without penalizing the number
of transactions, it is likely that strategies conducting many transactions yield the highest
return. Figure 6 confirms this hypothesis and indirectly explains the insignificance of the
on-balance volume average rules. Figure 6 shows the trading frequency of all the strategies
in the tested universe. The dark dots represent the significant strategies and the gray
dots represent the insignificant trading rules. Except for the filter rules, the significant
strategies are primarily trading rules which trade frequently. The average number of trades
of the significant strategies over the full sample period is 34 336, once every 70 minutes
on average. Table 5 shows the number of significant trading strategies segmented over
their delay and holding period parametrization. The segregation per delay period shows
that increasing the length of the delay filter drastically reduces the number of significant
strategies. A delay period reduces the number of transactions and therefore the potential
of high returns. Incorporating a long delay period reduces the number of transactions
with such a magnitude that the trading rule becomes useless. In fact, when the length
of the delay period equals d = 3, none of the trading rules generate any trading signal.19
This observation confirms the volatile and trend-reversal behavior of the BitCoin price.
Apparently, signals do not remain valid for more than three intervals due to the high
15
Consistent with Hsu et al. (2010), the number of strategies identified as significant by the SSPA test is
greater or equal compared to the stepM test.
16
The number of significant trading rules is relatively insensitive to the significance level. At a 10% and
1% significance level, the number of significant strategies are 562 and 496, respectively.
17
The literature does not convey a clear picture on support of this finding: Hsu et al. (2010) report a
similar number of significant strategies for the mean excess return and sharpe ratio performance metrics,
while Hsu et al. (2016) report a different number of significant trading rules per performance metric.
18
Consistent with Hudson et al. (2017) who show that trend-reversal strategies perform better when the
sampling frequency increases.
19
The average number of trades of the full universe of trading rules with delay period of length d = 0 is
49 457, of d = 1 is 7034 and of d = 3 is 0.

23
 Table 4: Number of significant technical trading rules per type

Class of trading rule Tested Mean excess return Sharpe ratio Sortino ratio
SSPA stepM SSPA stepM SSPA stepM
Standard strategies
Filter 225 66 66 66 59 66 62
Double moving average 396 0 0 0 0 0 0
Support & resistance 270 18 18 21 8 17 12
Channel breakout 360 0 0 0 0 0 0
Relative strength indicator 180 47 47 48 42 48 43
On-balance volume average 495 0 0 0 0 0 0
Bollinger bands 180 48 48 48 45 48 48
Contrarian strategies
Double moving average 396 78 78 84 57 86 66
Support & resistance 270 58 58 59 48 60 54
Channel breakout 360 194 194 197 182 194 186
Bollinger bands 180 18 18 18 14 18 14
Total 3312 527 527 541 455 537 485

The number of significant technical trading rules per class of rules, performance metric and testing
method at a 5% significance level. The trading rules are evaluated over the full sample period. The
2nd column gives the total number of strategies tested per class of trading rules.

price volatility. Interestingly however, the length of the holding period seems to have less
influence on the significance of the strategies. Despite the reduction of the number of
transactions caused by a holding period, the strategies will generate trading signals, but at
a lower frequency.

Figure 6: Distribution of the significant trading rules with respect to trading frequency

The figure shows the trading frequency of all trading rules in the tested universe. The dark dots
represents the number of trades of all significant trading rules, including the contrarian rules, as
indicated by the SSPA test. The gray dots represent the insignificant strategies. The x-axis represents
the model number, the dashed lines separate the different trading rule classes.

24
 Table 5: Parametrization characteristic of the significant trading rules

Performance metric Delay period d Holding period c

d=0 d=1 d=3 c=0 c=2 c=6
Mean excess return 230 103 0 178 176 173
Sharpe ratio 235 109 0 182 181 178
Sortino ratio 238 105 0 180 179 178

The number of significant technical trading rules segmented over the trading rule parameterization
of the delay and holding period. Values are obtained using the SSPA test. As the delay filter is
excluded in the channel breakout rules, the sum of the significant rules over the delay filter does not
equal the total significant rules.

6.2 Best Performing Technical Trading Rule

The best performing trading rule is defined as the strategy with the highest performance
metric. Table 6 shows statistics of the best performing technical trading rule over the full
sample period. The best performing trading rule is the bollinger band BB(4, 0.25, 0, 0)
strategy. This result is consistent for all performance metrics.20 This strategy yields a
mean excess log return of 3.816 basis points per 5-minute interval. The results are highly
significant as indicated by the p-values obtained from White’s Reality Check and the SPA
test.21 As illustrated in figure 7a, the trading rule manages to exploit both the upward and
downward price deviations. Figure 7b plots the cumulative returns over the first 3000 time
intervals together with squared returns to indicate periods of high volatility. It is concluded
from the figure that the trading rule is primarily profitable during periods of high volatility,
particularly when volatility peaks. Figure 11a compares the cumulative log returns of all
bollinger band rules and illustrates that multiple variations are highly profitable. The
bollinger band rules are the only strategies which include information on price volatility
when generating trading signals. Apparently, price volatility is an informative predictor for
the BitCoin price. Figure 12 in the appendix provides an example to show how the trading
signals of the BB(4, 0.25, 0, 0) rule are generated.

Table 6: Best performing technical trading rule over the full sample period

Performance metric Trading rule with highest return

Rule Mk (bps) Bench (bps) pW hite pSP A Trades BETC (bps)
Mean excess return BB(4, 0.25, 0, 0) 3.816 0.107 0.000 0.000 148 173 6.32
Sharpe ratio BB(4, 0.25, 0, 0) 0.087 0.002 0.000 0.000 148 173 6.32
Sortino ratio BB(4, 0.25, 0, 0) 0.134 0.003 0.000 0.000 148 173 6.32

Significance and profitability of the best performing technical trading rule at a 5% significance level.
The number of trades is defined as the number of switches between a long and a short position.
(One-way) break-even transaction costs (BETC) are determined by dividing the sum of log returns
by twice the total number of trades.

20
Although Qi & Wu (2006) select equal rules for each performance metric, this finding is generally not
consistent with the literature, see e.g. Sullivan et al. (1999), Hsu et al. (2010) and Hsu et al. (2016).
21
The p-values seem low, but similar results are reported by, among others, Sullivan et al. (1999), Qi &
Wu (2006) and Coakley et al. (2016).

25
 Figure 7: Return evolution of the BB(4, 0.25, 0, 0) strategy vs. a buy-and-hold strategy

(a) Focused cumulative log returns (b) Cumulative log returns vs. volatility
Figure 7a plots the cumulative log returns of the bollinger band BB(4, 0.25, 0, 0) strategy and a buy-
and-hold benchmark over the first 1000 time intervals. In figure 7b the horizon is increased and
squared returns are plotted on the right Y-axis to indicate periods of high price volatility.

Table 7 reports return statistics of the BB(4, 0.25, 0, 0) trading rule. The high kurtosis,
magnitude of the minimum and maximum return and standard deviation all reveal that the
strategy’s return is highly unstable over time, consistent with the stylized facts reported
by Menkhoff & Taylor (2007). The maximum drawdown is huge, losing over 15 000 basis
points of return within 5 days. As reported in table 6, the total number of trades is
148 173, corresponding to one trade every 16 minutes on average. The ratio of good versus
bad trades is remarkably high, with 56 788 profitable trades compared to 17 215 losing
trades. Nonetheless, the average loss of a losing trade is higher than the average return of a
profitable trade. Note that, as we consider log returns excess of a buy-and-hold benchmark
without transaction costs, all long positions yield zero excess return. The average duration
of a losing position is over twice as large as the average duration of a profitable position.
Hence, the profits from exploiting relatively many small price fluctuations exceed the losses
incurred from a few highly losing positions.

Table 7: Return statistics of the BB(4, 0.25, 0, 0) strategy over the full sample period

Mean excess log returns Mke (bps) 3.816

Standard deviation (bps) 56.7
Minimum (bps) −5051.5
Maximum (bps) 4236.9
Skewness 2.02
Kurtosis 729.4
Maximum drawdown (bps) 15 111.5
Number of profitable trades 56 788
Number of losing trades 17 215
Number of zero-return trades 74 170
Mean return of profitable trades (bps) 56.288
Mean return of losing trades (bps) -79.778

Descriptive statistic of the returns (excess of the buy-and-hold benchmark) of the BB(4, 0.25, 0, 0)
strategy over the full sample period. Return of a trade is defined as the sum of log returns obtained
during a period in which the same position is held.

26
 The impact of transaction costs is substantial at these high trading frequencies and does
eliminate the profitability of the best performing trading rule. Table 18 in the appendix pro-
vides the fee schedule of the BitStamp exchange. The minimum one-way transaction costs,
denoted by g, are 10 basis points. The break-even transaction costs of the BB(4, 0.25, 0, 0)
strategy are equal to g = 6.32 basis points.22 This level of transaction costs is lower than
the transaction costs actually faced by an average or institutional investor. Hence, inclu-
sion of transaction costs does eliminate the profitability of the BB(4, 0.25, 0, 0) strategy.
Figures 8a and 8b show the high impact of transaction costs on the trading rule profitabil-
ity. As shown in figure 8b, a 1 bps difference in transaction costs results in a huge log
return difference. Since trading rules selected before penalizing the number of transactions
tend to generate frequent trading signals, it is natural that the performance is impacted
substantially after including transaction costs.

Figure 8: Return sensitivity of the best performing trading rule to transaction costs

(a) Focused return evolution (b) Return sensitivity to transaction costs

Figure 8a shows the cumulative log returns of the BB(4, 0.25, 0, 0) strategy and a buy-and-hold
benchmark over the first 1000 time intervals. The dashed line represents the evolution of cumulative
log returns when one-way transaction costs equal break-even transaction costs, i.e. g = 6.32 basis
points. Figure 8a shows the returns over the full sample period. The dashed lines represent the
cumulative log returns when transaction costs of g = 4, 5, 6, 7 or 8 basis points are included.

6.3 Transaction Costs

In section 6.2 we evaluated transaction costs by reporting the break-even transaction costs of
the best-performing trading rule. In this way the reader can decide whether the transaction
costs he actually faces are below the reported break-even transaction costs. Although this
proves to be a useful tool, it may not always be appropriate. Trading rules selected before
incorporating transaction costs are primarily strategies which generate and execute many
trading signals, particularly when trading horizons are short. Incorporating transaction
costs from the start leads to other optimal rules with a different trade-off between gross
profitability and transaction costs. Another limitation of reporting break-even transaction
costs in combination with the best performing trading rule only, is that the break-even
transaction costs of the second best strategy might be substantially higher, while the gross
22
Break-even transaction are defined as the level of one-way transaction costs that will reduce excess
returns to exactly zero. Break-even transaction costs are determined by dividing the sum of log returns by
twice the total number of trades.

27
return is only slightly lower. To circumvent these concerns, in this section transaction costs
are included from the start.
One-way transaction costs of g = 13 basis points are included in all analyses reported
in the remainder of section 6. This level of transaction costs corresponds to investors with
a monthly traded volume of around USD 2 million, see table 18. Since we consider a level
of transaction costs which is actually faced by investors, finding significantly profitable
trading rules would serve as evidence of inefficiency of the BitCoin market.23 Transaction
costs are included in line with Qi & Wu (2006), that is, equation (4.2) is substituted with
 
e pt
rk,t = ln sk,t−1 − g|sk,t−1 − sk,t−2 |, (6.1)
pt−1

where g is the one-way transaction costs. Note that the absolute value of the difference of
two trading signals equals two when switching between a long and short position. Section
4 explains the transactions involved when switching between a long and short position in
the foreign exchange market and clarifies that one-way transaction costs are incurred twice
for every trade.
The number of significant strategies has decreased substantially due to the presence of
transaction costs. Table 8 shows the number of significant strategies per performance metric
and class of trading rules as identified by the SSPA and stepM test at a 5% significance
level. The number of significant strategies dropped from 541 to 22, 0.7% of the tested
universe of trading rules.24 In contrary to the results in table 4, the number of significant
strategies is not consistent over the different testing methods. The results confirm that the
SSPA test is more powerful than the stepM test, which loses power due to the presence of
numerous poorly performing rules.25 The stepM test only indicates significant rules when
testing the mean excess return performance metric. The average number of trades of the
significant strategies has decreased from 33 436 to 10 720. In comparison with figure 6,
figure 9 shows the reduction of number of trades of the significant strategies per class of
trading rules. The low number of trades of the significant filter rules before transaction
costs result in a small reduction of the number of significant filter rules when transaction
costs are included. Interestingly, the on-balance volume average rules remain insignificant,
despite their low trading frequency. Table 9 shows the number of significant strategies
dividend over the parametrization of the delay and holding period length. In comparison
with table 5, particularly strategies without a delay period have become insignificant due
to the presence of transaction costs. Apparently, the trade-off between capturing all trends
with frequent trading and exploiting stronger movements with reduced transaction costs,
has shifted in favor of the latter.
The best performing trading rule has changed due to the presence of transaction
costs. Table 10 shows that the trading rules with highest performance are now the fil-
ter F (3, 0.001, 1, 0) and F (3, 0.001, 1, 2) strategies, generating the same trading positions.
This result is consistent for all performance metrics. The total number of trades of
the F (3, 0.001, 1, 0) strategy is 10 707, trading once every 223 minutes on average, 14
times less compared to the BB(4, 0.25, 0, 0) trading rule. As illustrated in figure 11, the
BB(4, 0.25, 0, 0) trading rule has become unprofitable due to the inclusion of transaction
costs. The F (3, 0.001, 1, 0) strategy yields a mean excess log return of 0.379 basis points
23
One-way transaction costs of g = 13 basis points is comparable with other major exchanges, such as
Bitfinex and bitFlyer
24
The number of significant trading rules with transaction costs is relatively sensitive to the significance
level. At a 10% and 1% significance level, the number of significant strategies are 43 and 6, respectively.
25
Excluding the contrarian trading rules reduces the difference between the number of significant strategies
found by the SSPA and stepM test.

28
 Table 8: Number of significant technical trading rules per type with transaction costs

Class of trading rule Tested Mean excess return Sharpe ratio Sortino ratio
SSPA stepM SSPA stepM SSPA stepM
Standard strategies
Filter 225 16 16 20 0 20 0
Double moving average 396 0 0 0 0 0 0
Support & resistance 270 0 0 0 0 0 0
Channel breakout 360 0 0 0 0 0 0
Relative strength indicator 180 0 0 0 0 0 0
On-balance volume average 495 0 0 0 0 0 0
Bollinger bands 180 0 0 0 0 0 0
Contrarian strategies
Double moving average 396 0 0 0 0 0 0
Support & resistance 270 1 1 2 0 2 0
Channel breakout 360 0 0 0 0 0 0
Bollinger bands 180 0 0 0 0 0 0
Total 3312 17 17 22 0 22 0

The number of significant technical trading rules per class of rules, performance metric and testing
method at a 5% significance level. The trading rules are evaluated over the full sample period and
one-way transaction costs are set to g = 13 basis points. The 2nd column gives the total number of
strategies tested per class of trading rules.

Figure 9: Distribution of the significant trading rules with respect to trading frequency with
transaction cost

The figure shows the trading frequency of all trading rules in the tested universe. One-way trans-
action costs are set to g = 13 basis points. The dark dots represents the number of trades of all
significant trading rules, including the contrarian rules, as indicated by the SSPA test. The gray
dots represent the insignificant strategies. The x-axis represents the model number, the dashed lines
seperate the different trading rule classes.

29
 Table 9: Parametrization characteristic of the significant trading rules with transaction costs

Performance metric Delay period d Holding period c

d=0 d=1 d=3 c=0 c=2 c=6
Mean excess return 1 16 0 8 7 2
Sharpe ratio 2 20 0 10 10 2
Sortino ratio 2 20 0 10 10 2

The number of significant technical trading rules segmented over the trading rule parameterization
of the delay and holding period. Values are obtained using the SSPA test. One-way transaction
costs are set to g = 13 basis points. As the delay filter is excluded in the channel breakout rules, the
sum of the significant rules over the delay filter does not equal the total significant rules.

per 5-minute interval. Clearly, the optimal log return has decreased substantially after
including transaction cost, however the trading rule is still profitable. Figure 13 shows the
cumulative excess log returns over the full sample period. The graph illustrates that the
returns of the strategy are mainly generated during 2013, 2014 and 2017.
The results are highly significant according to the SPA test, however White’s Reality
Check indicates the trading rule as insignificant when evaluated using the Sharpe and
Sortino ratio. This observation supports the claim that the SPA test is more powerful than
White’s Reality Check. The p-values in table 10 confirm the connection between the four
data-snooping tests: the results of White’s Reality Check correspond with the findings of the
stepM test, while the results of the SPA test coincide with the SSPA test. When using the
mean excess return performance metric, the stepM test indicates 17 significant strategies
and White’s Reality Check reports a p-value less than 5% for the optimal trading rule.
For the Sharpe and Sortino ratio, the stepM test indicates zero significant strategies and
White’s Reality Check reports p-values above 5%. Similarly, for all performance metrics,
the SSPA test indicates significant trading rules and the SPA test reports p-values above
5%.
Table 11 reports return statistics of the F (3, 0.001, 1, 0) trading rule. Similar as the
BB(4, 0.25, 0, 0) strategy, the high standard deviation, kurtosis and maximum drawdown
indicate that excess returns are highly unstable over time. In contrary to the results
reported in table 7, the number of profitable trades is lower compared to the number
of losing trades. Note however that, due to the presence of transaction costs all long
positions are losing compared to the buy-and-hold benchmark strategy. The mean return
of a profitable trade is substantially higher than the mean loss of a losing trade.

Table 10: Best performing technical trading rule over the full sample period with transaction costs

Performance metric Trading rule with highest return

Rule Mk (bps) Bench (bps) pW hite pSP A Trades
?
Mean excess return F (3, 0.001, 1, 0) 0.379 0.107 0.002 0.002 10 707
Sharpe ratio F (3, 0.001, 1, 0)? 0.008 0.002 0.208 0.004 10 707
Sortino ratio F (3, 0.001, 1, 0)? 0.012 0.003 0.138 0.004 10 707
?
F (3, 0.001, 1, 2) has equal trading signals, performance and significance.
Significance and profitability of the best performing technical trading rule at a 5% significance level.
The number of trades is defined as the number of switches between a long and a short position.
One-way transaction costs are set to g = 13 basis points.

30
Table 11: Return statistics of the F (3, 0.001, 1, 0) strategy over the full sample period with trans-
action costs

Mean excess log returns Mke (bps) 0.379

Standard deviation (bps) 67.5
Minimum (bps) −12 243.0
Maximum (bps) 7378.8
Skewness -11.41
Kurtosis 3256.0
Maximum drawdown (bps) 16 823.7
Number of profitable trades 2466
Number of losing trades 8239
Number of zero-return trades 2
Mean return of profitable trades (bps) 295.600
Mean return of losing trades (bps) -66.538

Descriptive statistic of the returns (excess of the buy-and-hold benchmark) of the F (3, 0.001, 1, 0)
strategy over the full sample period. The return of a trade is defined as the sum of log returns
obtained during a period in which the same position is maintained. One-way transaction costs are
set to g = 13 basis points.

6.4 Subperiod Analysis

The performance of the trading rules is not persistent over the full sample period. Dividing
the full sample period in subperiods allows us to test for persistence in the results. Moreover,
as mentioned by Thaler (1987), using subsamples is another way to avoid data-mining
effects. This section provides a subperiod analysis and shows that the BitCoin market has
become more efficient over time.
We split the data in 5 subsamples, comprising of all available data of 2013, 2014,
2015, 2016 and 2017, respectively. Given that the full sample period ends in July 2017,
the number of observations in the last subperiod is around half of the other subsamples.
Descriptive statistics of the subsamples are given in table 19. The dashed lines in figures 4a,
4b and 4c distinguish the subsamples and show the behavior of the BitCoin price over the
different periods. Mean returns fluctuate substantially over the subsamples, but are only
negative during subperiod 2. The average number of trades is particularly high during the
last subperiod, while subsample 4 is characterized by low traded volume and low number
of trades. For further characteristics of the subperiods we refer to table 19 in the appendix.
The results obtained in section 6.3 are not persistent over the 5 subsamples. Table 12
reports the results of the subperiod analysis with one-way transaction costs of g = 13 basis
points. The number of significant strategies as indicated by the SSPA and stepM test at
a 5% significance level tends to deteriorate over time. In fact, after 2014 all strategies are
marked as insignificant. This may serve as evidence that the Bitcoin market has become
more efficient over time.
These results are consistent over the different performance metrics and data-snooping
tests. The trading rule with the highest return is not consistent over the subperiods and
optimal returns tend to deteriorate over time. Only for subsamples 2013 and 2014, the best
performing trading rule is significant at a 5% confidence level. Subsample 2013 is the only
period for which the optimal trading rule is not consistent over the different performance
metrics. Interestingly, the F (3, 0.001, 1, 0) strategy is in none of the subperiods indicated
as the best performing trading rule. Returns of the best performing strategies in 2013
and 2014 are large compared to the average return over the full sample period achieved

31
 by the F (3, 0.001, 1, 0) trading rule. However, after 2014, returns decrease and the optimal
strategies become insignificant. By consulting table 19, we conclude that the performance
of the selected trading rules is consistent with the stylized fact that trading rules tend to
have higher returns during more volatile periods.

Table 12: The significance and profitability of the technical trading rules over the subsamples with
transaction costs

(a) Mean excess returns

Sample H0 rejected Rule with highest return

SSPA stepM Rule Mke (bps) Bench (bps) pW hite pSP A Trades
?
Subsample 1 31 31 F (24, 0.0005, 1, 0) 1.175 0.382 0.014 0.010 3370
Subsample 2 44 44 SRc (3, 0.005, 0, 2) 0.504 -0.078 0.014 0.000 2062
Subsample 3 0 0 SR(24, 0.001, 1, 0)† 0.174 0.028 0.744 0.722 136
Subsample 4 0 0 SR(24, 0.00025, 1, 0)‡ 0.084 0.077 0.918 0.890 197
Subsample 5 0 0 F (3, 0.0005, 1, 0)§ 0.369 0.143 0.446 0.452 2419

(b) Sharpe ratio

Sample H0 rejected Rule with highest return

SSPA stepM Rule Mks (bps) Bench (bps) pW hite pSP A Trades
?
Subsample 1 31 0 F (24, 0.0005, 1, 0) 0.015 0.005 0.114 0.016 3370
Subsample 2 5 2 SRc (3, 0.005, 0, 2) 0.015 -0.002 0.048 0.000 2062
Subsample 3 0 0 SR(24, 0.001, 1, 0)† 0.006 0.001 0.750 0.566 136
Subsample 4 0 0 SR(24, 0.00025, 1, 0)‡ 0.004 0.004 0.866 0.624 197
Subsample 5 0 0 F (3, 0.0005, 1, 0)§ 0.011 0.005 0.504 0.328 2419

(c) Sortino ratio

Sample H0 rejected Rule with highest return

SSPA stepM Rule Mkz (bps) Bench (bps) pW hite pSP A Trades
Subsample 1 32 2 BB(24, 0.25, 0, 0) 0.024 0.007 0.044 0.002 11812
Subsample 2 4 2 SRc (3, 0.005, 0, 2) 0.015 -0.003 0.004 0.000 2062
Subsample 3 0 0 SR(24, 0.001, 1, 0)† 0.009 0.001 0.678 0.516 136
Subsample 4 0 0 SR(24, 0.00025, 1, 0)‡ 0.006 0.006 0.812 0.556 197
Subsample 5 0 0 F (3, 0.0005, 1, 0)§ 0.016 0.006 0.440 0.328 2419
?
F (24, 0.0005, 1, 2) has equal trading signals and performance.
†
SR(24, 0.001, 1, 2) and SR(24, 0.001, 1, 6) have equal trading signals and performance.
‡
SR(24, 0.00025, 1, 2) and SR(24, 0.00025, 1, 6) have equal trading signals and performance.
§
F (3, 0.0005, 1, 2) has equal trading signals and performance.
The profitability and significance of the technical trading rules for the different subsamples and
performance metrics at a 5% significance level. Transaction costs are set to g = 13 basis points.
The 2nd and 3rd column of each table provide the number of significant trading rules as given by the
SSPA and stepM test, respectively. The remaining 6 columns report statistics on the best-performing
strategy per subperiod. The number of trades is defined as the number of switches between a long
and a short position.

32
 Table 13 shows the performance of the best performing technical trading rules per
subsample as indicated in table 12, but evaluated over the successive subperiod. When
picking a trading strategy for the next subperiod, it is likely that an investor will choose the
best performing trading rule over the most recent subperiod. Unfortunately, performance in
the successive subperiod is substantially lower compared to the best performing trading rule
in that subsample and even negative in the last subperiod. None of the strategies is included
in the set of significant strategies of the successive period, e.g. the F (24, 0.0005, 1, 0) is not
included in the set of significant strategies of subsample 2. These results support the
observation of (increased) efficiency of the cryptocurrency market. The number of trades
of the strategies is comparable between both subperiods.

Table 13: The profitability of the best performing trading rules in the successive subsample with
transaction costs

Sample Rule with highest return in previous subperiod

Rule Mke (bps) Mke (bps) Mke (bps) Trades
Subsample 1 - - - - -
Subsample 2 F (24, 0.0005, 1, 0) 0.290 0.008 0.012 4676
Subsample 3 SRc (3, 0.005, 0, 2) 0.016 0.001 0.001 1126
Subsample 4 SR(24, 0.001, 1, 0) 0.025 0.001 0.002 83
Subsample 5 SR(24, 0.00025, 1, 0) -0.075 -0.002 -0.003 304

The profitability the best performing technical trading rules per subsample as indicated in table 12,
but evaluated over the successive subperiod. Transaction costs are set to g = 13 basis points. The
number of trades is defined as the number of switches between a long and a short position.

7 Combining Signals: A Machine Learning Approach

The previous sections reported the profitability and significance of trading signals gen-
erated from individual trading rules. Although profitable individual trading rules were
identified, picking only one rule leads to loss of available information generated by the
remaining strategies. Since a single trading strategy can not be expected to predict all
price movements, we develop a neural network classification algorithm to combine trading
signals and/or positions of multiple single trading rules into a complex trading strategy.
The new combined strategies outperform the best performing individual trading rules and
benchmark based on performance metrics and break-even transaction costs. Section 7.1
reviews the rationale behind combining trading signals and related academic literature.
Moreover, we introduce the naive learning and voting strategies which serve as combined
signal strategy benchmark. Section 7.2 discusses the implementation of the neural network
algorithm. Section 7.3 interprets the profitability and significance of the developed complex
trading strategies.

33
7.1 Combining Trading Signals
Single technical trading rules used in isolation will generally not be able to predict all price
movements (Pring 1991). Combining trading signals and/or positions of multiple individ-
ual trading rules into complex trading strategies captures more of the available information
and may provide improvements upon the single trading rules. Moreover, it reduces the risk
of relying on a single strategy. As showed by Leung et al. (2000), classification models pre-
dicting the direction of the price movement appear to outperform level estimation models.
Therefore we generate the new combined trading strategies by a classification algorithm,
which classifies the signals and/or positions generated by the universe of trading rules into
a discrete buy (1), hold (0) or sell (-1) category.
Although rarely in the literature combined trading strategies are based on discreet
trading signals or positions, rather than continuous indicators, Hsu & Kuan (2005) propose
three complex strategies which (naively) combine trading positions of multiple individual
rules. Learning strategies initially select one of the component trading rules, but allows for
strategy changes when one of the component trading rules is performing better, evaluated
of a certain review span. Voting strategies use a simple average over the generated positions
to determine the combined trading signal. Fractional position strategies adjust the invested
amount based on the simple average over the trading signals, e.g. if the simple average
equals 0.3, a long position of 0.3 units is taken. Although Hsu & Kuan find more significant
complex trading strategies than single trading strategies, the naive combined strategies do
not improve upon the single trading rules.
Subramanian et al. (2006) argue that naive combinations of single trading rules are not
effective in mitigating their weaknesses, particularly in adverse market conditions. They
propose a genetic algorithm which optimizes weights assigned to each trading rule in the
tested universe. The agreed trading position is determined evaluating the weighted sum of
all positions. The obtained optimal weights were held constant during the complete trading
period. They find that their genetic program consistently improves upon single trading rules
in a variety of market conditions. Similar results were reported by Briza & Naval (2011),
who used particle swarm optimization to find the optimal strategy weights. Wang et al.
(2014) argue that performance of a trading rule with a static choice of weights may not be
persistent over time. They propose a performance-based reward algorithm which adjusts
the weights based on recent performance of the component strategies. The parameters of the
algorithm are optimized using time-varying particle swarm optimization. The (dynamic)
algorithm outperforms all the component strategies over the complete trading period.
We use a neural network to generated combined trading signals. There exists vast lit-
erature which examines the predictability of financial time series using various types of
neural networks. Early work of Tenti (1996) showed that neural networks with technical
indicator input features are able to predict foreign exchange rates. Altay & Satman (2005)
showed that neural networks outperform linear regression models in predicting stock mar-
ket direction. As price processes are generally non-linear, neural networks have superior
explanatory power due to its ability to predict complex non-linear relations. Guresen et al.
(2011) provide a literature survey regarding financial time series prediction using neural
networks. In this study, we will define a multiclass classification model using a neural
network with trading signal and/or position vectors as input features. Section 7.2 explains
neural networks and their implementation in more detail. Note that neural network setting
and architecture optimization is out of the scope of this paper. The aim of this chapter is to
show that neural networks can be used to combine signals. Advanced network optimization
is left for further research.

34
 Strategies similar to Hsu & Kuan (2005)’s naive learning and voting strategies are
used as benchmark strategies for the neural network algorithm. The implemented learning
strategies evaluate after every m periods the performance of all individual trading rules
over the previous m periods. The investor switches between adopted trading strategy
based on the best performing trading rule in the most recent evaluated period of length m.
We denote a learning strategy with evaluation period of length m by LS(m). We apply
three parameter settings, m ∈ {6, 12, 288}, implying that performance is evaluated every
30 minutes, hour or day. The voting strategies calculate the simple average z over all the
trading signals or positions. Trading signals determined by equation (7.1),

1 if z > b


0 if else (7.1)

−1 if z < −b
where we set band b ∈ {0, 0.05, 0.1, 0.15, 0.2, 0.25, 0.3, 0.35, 0.4}. Trading positions are
determined buy substituting the hold (0) signals by the most recent non-zero signal. We
denote a voting strategy with filter band b by V S(b). The voting strategies are only used
as benchmark for neural networks with single trading rule classes as input feature (section
7.3.2), not for the neural networks with the complete universe of trading rules as input
feature (section 7.3.1). Since the full universe consists of trend-following, trend-reversal
and their contrarian trading rules, it is meaningless to take a simple average over the full
universe. The strategies with a contrarian counterpart will cancel out and larger trading
rule classes will dominate the simple average when evaluated over the full universe.

7.2 Neural Networks

Neural networks are mathematical structures, based on biological brains, consisting of
interconnected nodes which interact by propagating signals of varying strength. Neural
networks are used as non-linear statistical models which can be applied for both regression
and classification problems. We consider the most popular form of neural networks, called
feedforward networks. Figure 10 provides a schematic representation of a feedforward
neural network with one input layer, two hidden layers and one output layer. The input
layer represents the K input variables of the network, called features, and one bias unit. The
output layer represents the S output classes. Each node of the hidden layers in between
creates linear combinations of the preceding nodes to progressively transform the input
features into the output variables. The parameters of these linear combinations, called
weights, are updated during the learning process to optimally predict the output of a given
sample dataset. Although the weights in each node comprise a linear combination, by
combining multiple nodes and hidden layers, complex non-linear functions are constructed.

35
 Figure 10: Graphical representation of a neural network

Input 1st Hidden 2nd Hidden Ouput

layer layer layer layer
Xbias
H1,bias H2,bias

X1

H1,1 H2,1 Y1
X2
..
X3 .. .. .
.. . . YS

XK
. H1,N1 H2,N2

Schematic representation of a four layered feedforward neural network with one input layer of size
k + 1, two hidden layers of size n1 + 1 and n2 + 1 and one output layer of size s.

The neural network can be represented by the following system of equations (Friedman
et al. 2001):

H1,n1 = σ(α0,n1 + αn0 1 X), n1 = 1, ..., N1 (7.2)

H2,n2 = σ(β0,n2 + βn0 2 H1 ), n2 = 1, ..., N2 (7.3)
Ts = γ0,s + γs0 H2 , s = 1, .., S (7.4)
fs (X) = gs (T ), s = 1, .., S (7.5)

where α, β and γ are the weights, σ is called the activation function and g the transfer func-
tion. We follow the literature and use the hyperbolic tangent sigmoid activation function,
defined by
2
σ(z) = −1 (7.6)
1 + exp(−2z)
and the softmax transfer function, defined by

exp(Ts )
gs (T ) = S
. (7.7)
P
(exp(Ti ))
i=1

The outputs of the softmax function are interpreted as the probability that the input vector
is a member of class s. The corresponding classifier is defined as C(x) = argmax[fs (x)].
s
The network weights are optimized by minimizing an error with respect to target function

36
y. As we have discreet outputs of 1 (buy), 0 (hold) or -1 (sell), we are defining a mul-
ticlass classification problem. The cross-entropy error function R proves to be the most
appropriates measure for classification problems, which is defined by
N X
X S
R(θ) = − yi,s log fs (xi ) (7.8)
i=1 s=1

where θ is the collection of all weights, N the number of observation in the training data and
y the target vector or matrix. The error function R(θ) is minimized using scaled conjugate
gradient back-propagation, developed by Møller (1993). Similar as most minimization
methods, this algorithm minimizes R(θ) by using gradient descent. The reason why we use
the SCG algorithm is twofold and relies on performance of the MATLAB ‘Neural Network
Toolbox’. First, the SCG algorithm proves to perform well on networks with a large number
of weights, both in terms of performance and speed of computation. Secondly, the memory
requirements are relatively small. Both are important as we are working with a large dataset
and limited computational resources. For the technical details of the SCG algorithm, we
refer to Møller (1993).
The input data consists of the trading signals and/or positions generated by the trading
rules divided in three sets, the training set, the validation set and the test set. We define
the three sets by using the subsamples as defined in section 6.4. The training set consists
of the trading signals generated during subsample 1 and 2, the validation set of the signals
generated during subsample 3 and the test set of the signals generated during subsamples
4 and 5. The target vector is defined as the signs of the log returns, that is:
  
pt
yt = sign ln . (7.9)
pt−1

Since we are classifying the data in multiple categories, target vector yt has to be trans-
formed to the appropriate form. The resulting target matrix is a T × S matrix y, where
yi,s is one if the observation at time i is in class s. All other entries are zero.
During each iteration (epoch) of the SCG algorithm, the weights of the network are
optimized by minimizing R(θ) based on the training set. Moreover, after each epoch, the
performance of the weights is tested out-of-sample on the validation set. Together with
the training error, the validation error generally decreases during the first epochs of the
training phase. When the networks starts to overfit the training data, the training error
keeps decreasing, but the validation error will rise. Therefore, to avoid overfitting, the
training is stopped when the validation error increases for a certain number of successive
epochs. We set this number to 6, which is general practice, see footnote 26. The weights
at the minimum validation error are returned as optimal weights.
The performance of the resulting trading strategy, denoted by N N , is evaluated on the
test set only. Note however that the signals of the N N strategy are transformed to positions
when determining performance. That is, all periods classified as hold (0) are substituted
with the most recent non-zero signal. Generally, gradient descent performs better when
inputs are normalized. However, as the trading signals are already between -1 and 1, this
is not necessary. As we mitigate overfitting by using a validation set, regularization is not
used. For further details on neural networks and there applications, we refer to Friedman
et al. (2001).

37
7.3 Significance of the Combined Signal Strategies
Combining trading signals of individual technical trading rules by means of a neural network
results in strategies which outperform the individual trading rules and naive learning and
voting strategies. Section 7.3.1 reports the results of a combined signal strategy generated
by a neural network with trading signals of the full universe of trading rules as input
features. The resulting strategies outperform the individual strategies and benchmarks.
The constructed network is kept small to ensure feasible computation time with the limited
resources we have. Section 7.3.2 examines the classes of trading rules individually. Since
these input datasets are smaller, we are able to include additional input features. The
resulting strategies outperform the best component for most trading rule classes.

7.3.1 Network of the Full Universe of Trading Rules

The universe of technical trading rules consists of 3312 strategies. However, as the contrar-
ian rules generate opposite signals compared to the standard strategies, negative weights
of the network automatically include these strategies already. Moreover, strategies which
generate duplicate trading signals are removed from the dataset. The resulting vector of
input features X consists of K = 1593 trading rules and one bias unit. The constructed
neural network consists of two hidden layers, hidden layer H1 containing N1 = 20 neurons
and hidden layer H2 containing of N2 = 5 neurons. Both hidden layers have one additional
bias unit. The output layer Y consists of S = 3 neurons, representing the long (1), hold (0)
and short (-1) category. In determining the architecture of the network we searched for a
balance between computation time and flexibility to capture non-linearities in the data.26
Transaction costs are excluded, but break-even transaction costs are reported instead. Net-
work training is repeated multiple times, with random starting weights, to avoid ending
up in a local minimum (Yao et al. 2001). The optimal run is determined based of network
performance on the validation set.
We developed two different combined signal strategies, differentiated by the input fea-
tures of the neural network. The most natural input features are the trading positions st,k
of the individual strategies. The combined signal strategy resulting from this network is
denoted by N N pos . However, the trading position of the strategy might not always be an
appropriate representation of the information generated by the trading rule. If no trad-
ing signal is generated, the position of the strategy is based on the previous position and
contains different information then the position that was taken directly after a trade. For
example, prices increased and a support and resistance strategy generated a buy signal at
t = 1. However, prices remain flat thereafter and as a result no other trades occur until
t = T . The strategy’s position vector will consists solely of ones as the long position is held
until t = T , while the signal vector has a one at the first cell and zeros thereafter. The
information contained in these vectors is different and might be appropriate in different
situations. Therefore we define a combined signal strategy based on trading signals as in-
put features as well, denoted by N N sig . Note that the positions of the resulting combined
strategies remain to consists solely of long and short positions. The periods classified as a
hold (0) signal are substituted with the most recent non-zero signal when transforming the
fitted vector to strategy positions.
Based on this two combined signal strategies, we develop an additional four strategies
differentiated by different target vectors y as input variable. The target vector as defined
26
An experienced high-frequency trading practitioner with daily exposure to machine learning algorithms
advised us on the architecture of the model, based on the size of the dataset, our computational resources
and the scope of the paper.

38
in (7.9) classifies observations based on the sign of the returns. However, even if the return
is negligibly small, the observation will be classified as a buy (1) or sell (-1) signal. But
when transaction costs are present, it may be suboptimal to switch position based on such
small returns, and holding the current position leads to better performance. Therefore a
target vector is defined where all returns within a band of by basis points are treated as
hold (0) observations. We set by = 13 and by = 26 basis points for both the N N pos and
N N sig strategy, resulting in four additional strategies, denoted by N N .,13 and N N .,26 . The
size of the bandwidth is related to the one-way transaction costs as described in section
6.3. When by = 26 basis points, all returns below the transaction costs are classified as a
hold signal in the target vector. The rationale is that one only changes position when next
period’s expected return exceeds the transaction costs and is undoubtedly profitable. The
resulting target vector has around 100 000 observations classified as non-hold. However,
we are aware that this might not always be appropriate. After all, successive periods with
positive returns below the transaction costs can be profitable if a long position in taken
during the first period and no further trades are executed thereafter. Therefore, we test
the combined signal strategies for by = 13 basis points as well. The resulting target vector
has around 200 000 observations classified as non-hold. Considering the high volatility and
kurtosis of the returns, it is unlikely that returns have the same sign for long consecutive
periods and therefore we do not test for smaller levels of by .
Table 14 reports the performance metrics, number of trades and break-even transaction
costs of the combined signals strategies. For comparison, the performance of the individual
trading rule with the highest Sharpe ratio, B(4, 0.25, 0, 0), and the return of the buy-
and-hold benchmark, both evaluated over subsamples 4 and 5, is reported in the table as
well. Moreover, the performance of the best performing naive learning strategy benchmark,
LS(288), is reported as well. The N N pos , N N sig and N N sig,13 strategies outperform the
best individual strategy and both benchmarks on all performance metrics ánd break-even
transaction costs. Hence, it is concluded that combining signals of individual strategies by
means of a neural network yields superior performance. Since the N N sig,13 trading rule has
break-even transaction costs exceeding 13 basis points, the presence of transaction costs
does not necessarily eliminate the strategy’s profitability. The N N sig,13 strategy correctly
classifies 68% of the price movements in the test set (out-of-sample). Interestingly, the
input feature which has the largest sum of absolute weights in the first hidden layer of the
N N sig,13 network is the B(4, 0.25, 0, 0) strategy. Hence, the strategy which passes most
information through the network is indeed the best performing trading rule as indicated
in section 6.2.27 It is observed that the N N .,sig strategies perform consistently superior
compared to the N N .,pos strategies, not only based on performance metrics, but also on
percentage correct classification and break-even transaction costs. Table 15 reports return
statistics of the N N sig,13 trading rule. As the N N strategies improve upon the individual
trading rules and benchmarks, their significance is evident and requires no further testing.
The best performing learning strategy is the LS(288) trading rule. Although the break-even
transaction costs of the trading rule are higher compared to the B(4, 0.25, 0, 0) strategy,
it does not outperform the best individual trading rule based on performance metrics.
Note that the neural network automatically includes the contrarian counterpart of every
trading rule by allowing negative weights in the network. Therefore, in order to make
the benchmark comparable to the N N strategies, the learning strategies are calculated by
including the contrarian trading rules of all classes in the universe. As stated above, the
voting strategies are used as benchmarks in the next section only.
27
Due to the size of the network and the multiple hidden layers, further meaningful interpretation of the
network weights is not possible.

39
Table 14: Performance of the combined signal strategies and benchmarks over the test set using
the full universe of trading rules as input features

Trading rule Performance metrics (bps) Cor. class. Trades

e s z
M M M Trades BETC
pos
NN 2.712 0.112 0.167 51.6% 45 526 5.02
N N sig 7.688 0.332 0.672 64.3% 83 705 7.56
N N pos,13 0.300 0.012 0.017 64.5% 2959 10.95
N N sig,13 3.750 0.155 0.274 68.0% 20 180 15.49
N N pos,26 -0.200 -0.008 -0.012 85.3% 0 -
N N sig,26 1.211 0.050 0.075 85.3% 4456 23.89

B(4, 0.25, 0, 0) 2.639 0.109 0.163 - 52 995 4.20

LS(288) 2.529 0.104 0.155 - 25 815 8.27
Benchmark r0 0.100 0.004 0.006 - - -

Performance of the combined signal strategies using the full universe of trading rules as input features
for the four layered feedforward neural network. For comparison, the best performing individual
trading rule, evaluated of subsamples 4 and 5, the return benchmark and the best learning strategy
are given as well. The 2nd till 4th column report the performance metrics. The 5th column reports
the percentage of correctly classified price movements within the test set. The 6th and 7th column
provide the number of trades and break-even transaction costs.

Table 15: Return statistics of the N N sig,13 strategy over subsamples 4 and 5

Mean excess log returns Mke (bps) 3.750

Standard deviation (bps) 33.2
Minimum (bps) −1064.6
Maximum (bps) 3107.6
Skewness 8.92
Kurtosis 609.5
Maximum drawdown (bps) 1118.0
Number of profitable trades 13 451
Number of losing trades 6693
Number of zero-return trades 36
Mean return of profitable trades (bps) 63.506
Mean return of losing trades (bps) -36.615

Descriptive statistic of the returns (excess of the buy-and-hold benchmark) of the N N sig,13 strategy
over subsamples 4 and 5. The return of a trade is defined as the sum of log returns obtained during
a period in which the same position is maintained.

7.3.2 Network of Trading Rules Classes

This section examines the classes of trading rules individually, by training neural networks
with input features from single trading rule classes. In this way we can study whether
the combined signal strategies outperform their best performing component within each
class of trading rules. Similar as previously, the constructed neural networks consist of two
hidden layers, with 20 and 5 neurons respectively. We add one additional type of combined
signal strategy, N N both , where both the trading positions and signals are included as input
features. Similar as above, band by is included to define different target vectors y.

40
 Table 16 reports the Sharpe ratio and break-even transaction costs of the combined
signals strategies of the individual trading rule classes. Moreover, the best component,
naive learning and voting strategy are reported as benchmarks. It is concluded that for
most of the classes of trading rules it holds that all benchmarks are outperformed when
combining the information generated by the included trading rules by means of a neural
network. Moreover, some combined signal strategies yield break-even transaction costs
exceeding 13 bps, hence the presence of transaction costs does not necessarily eliminate
profitability. It is observed that the N N sig strategies outperform the N N pos strategies.
Furthermore, the N N both strategies seem to outperform the N N sig strategies, but this is
not consistent over all classes and strategies. None of the strategies is able to outperform
the neural network which includes the full universe of trading rules. Note that the strategies
with (-) break-even transaction costs make 1 or less trades during subsample 4 and 5. Such
strategies with 0.000 Sharpe ratio are long and strategies with -0.008 Sharpe ratio are
short during the complete sample period. Moreover, note that neural networks include
the contrarian counterpart of each trading rule by allowing for negative network weights.
Hence, when evaluating the benchmarks, all contrarian strategies are included, even if these
strategies are not included in the universe defined in section 2. The naive learning strategies
are not able to outperform the best component of each class of trading rule. However, some
naive voting strategies slightly outperform the best component trading rule. It is observed
that for all trading classes the voting strategy with b = 0 performs best. These strategies
trade most frequent since no hold signals are generated when b = 0.

Table 16: Performance of the combined signal strategies and benchmarks over the test set using
the trading rules classes as input features

Trading rule Performance: M s (BETC)

F MA SR CB RSI OBV BB
pos
NN 0.090 (4.50) 0.012 (1.82) 0.024 (4.06) 0.038 (3.73) 0.126 (4.03) 0.000 (-) 0.104 (4.92)
N N sig 0.157 (3.78) 0.072 (2.16) 0.098 (3.64) 0.051 (2.28) 0.102 (2.37) 0.000 (-) 0.194 (4.16)
N N both 0.210 (6.09) 0.029 (2.87) 0.058 (3.90) 0.043 (3.95) 0.184 (4.69) 0.000 (-) 0.212 (5.49)
N N pos,13 0.003 (10.67) 0.000 (-) 0.002 (110.31) 0.003 (18.20) -0.008 (-) 0.000 (-) 0.015 (8.46)
N N sig,13 0.059 (13.06) 0.000 (-) 0.019 (13.24) 0.004 (13.41) -0.008 (-) 0.000 (-) 0.032 (11.42)
N N both,13 0.054 (13.27) 0.005 (11.75) 0.000 (-) 0.001 (21.65) 0.002 (10.06) 0.000 (-) 0.055 (10.44)
N N pos,26 0.001 (21.70) 0.000 (-) 0.000 (-) 0.000 (-) -0.004 (-) 0.000 (-) 0.000 (-)
N N sig,26 0.006 (26.75) 0.000 (-) 0.000 (-) -0.008 (-) -0.008 (-) 0.000 (-) 0.000 (-)
N N both,26 0.011 (20.96) 0.008 (-) 0.000 (-) 0.000 (-) -0.008 (-) 0.000 (-) 0.004 (17.02)

Best component 0.099 (5.20) 0.057 (4.13) 0.062 (4.15) 0.061 (4.12) 0.059 (2.89) 0.000 (-) 0.109 (4.20)
Best LS(m) 0.072 (5.85) 0.033 (2.88) 0.051 (4.20) 0.050 (4.16) 0.058 (4.72) 0.000 (-) 0.092 (7.34)
Best V S pos (b) 0.011 (1.91) 0.004 (3.02) 0.006 (3.65) 0.024 (5.17) -0.001 (-) 0.000 (-) 0.022 (3.17)
Best V S sig (b) 0.100 (2.74) 0.039 (3.60) 0.067 (4.15) 0.066 (4.12) 0.052 (2.14) 0.000 (-) 0.095 (3.14)

Sharpe ratio and break-even transaction costs of the combined signal strategies using the individual
trading rule classes as input features for the four layered feedforward neural network. For compar-
ison, the best performing individual trading rule, learning and voting strategy within each class of
trading rules, evaluated of subsamples 4 and 5, is given as well.

41
8 Conclusion
This paper examines and confirms the profitability of technical analysis in the cryptocur-
rency market. There exist vast literature regarding the widespread use and significant
excess profitability of technical trading rules in the foreign exchange market. However, this
is the first paper which studies technical analysis in the cryptocurrency market. We exam-
ine performance of a large universe of technical trading rules on the 5-minute BTC/USD
spot exchange rate between 2013 and 2017. Data-snooping effects are mitigated by using
White’s Reality Check, the SPA test, the stepM test and the SSPA test.
Technical trading rules have predictive power in the cryptocurrency market and trans-
action costs do not necessarily eliminate excess profitably. Both the stepM and SSPA test
indicate numerous significant trading strategies, evaluated over the full sample period, even
when realistic transaction costs are present. Both White’s Reality Check and the SPA test
report that the best performing trading strategy is highly significant. Nevertheless, the
profitability of the trading strategies seems to decline sharply over time. In fact, none of
the trading rules is significantly profitable after 2014. This may serve as evidence that the
cryptocurrency market has become more efficient over time.
Although profitable individual trading rules were identified, individual technical trading
rules used in isolation will generally not be able to predict all price movements. Since
picking only one rule leads to lose of available information generated by the remaining
strategies, we develop a neural network classification algorithm which combines trading
signals or positions of multiple individual trading rules into a complex trading strategy.
The new combined strategies outperform the best performing individual trading rules and
benchmarks based on performance metrics and break-even transaction costs. Since these
significantly profitable trading strategies with realistic break-even transaction costs exists,
it is concluded that the cryptocurrency market is not fully efficient.

9 Discussion and Further Research

This section discusses some of the important decisions made in conducting the research
and writing this paper. We highlight potential extensions of this study and propose some
interesting related topics for further research.
The design of the universe of trading rules has major influence of the results. Many
classes of technical trading rules and different parameterizations exists, but little guidance
on profitability and trading rule selection is available (Park et al. 2016). Particularly, as
trading rules at a 5-minute frequency are rarely discussed in the literature, determining
reasonable parameterizations of the trading strategies is challenging. We based the param-
eterizations of the trading rules on works of Scholtus & van Dijk (2012) and Hudson et al.
(2017), but whether these setting are actually used by practitioners is unclear. The low
trading frequency of the on-balance volume average trading rules might indicate that we
have chosen inappropriate parameters for this trading class. Another approach is to set
the parameters such that the trading rules cover a large surface in the parameterization
space, without considering the actual use by practitioners. For example, Sobol sequences
(Sobol & Levitan 1976), might be an appropriate method to choose parameter settings.
Optimization of trading rule parameterization might serve as an interesting topic for fur-
ther research. Expanding the universe of trading rules is also a frequently used method
to extend existing research. As cryptocurrencies are not related to countries with certain
timezones, examining the prevalence of existing (intra-day) calender effects might be of
interest.

42
 Some technical trading rules turn out to be highly profitable, even after transaction
costs. As reported in section 6.3, the 5-minute mean excess log return of the best per-
forming trading rule with transaction costs equals 0.379 basis points. This return seems
unrealistically high, but can be explained by the high volatility of the BitCoin price and the
high trading frequency of the trading strategies. Although, potential short-sale restrictions,
limited liquidity and other market restrictions might influence the profitability. What we
did not consider in the paper is the possible impact of the bid-ask bounce on these high
returns. Unfortunately, order book and bid-ask spread data was not available. Examining
the impact of the bid-ask bounce bias on the profitability of the trading rules might be an
interesting topic for further research.
As discussed in section 7.1, neural network setting optimization is out of scope of this
study and left for further research. Besides improving the neural network settings and
architecture, another way to extend the paper is to add additional input features. Inter-
esting possibilities are information on different cryptocurrencies than BitCoin, information
of stocks of technological companies acting in the field of digital payments and blockchain,
or the number of news articles and Google searches related to BitCoin. We are aware that
the neural network trained in this paper includes contrarian strategies of trading classes for
which we argued in section 2 that no reasonable rationale exists. Other machine learning
techniques were considered, but based on the size of the dataset and required computa-
tion time is was concluded that neural networks are the most appropriate algorithm. A
disadvantage of the neural network algorithm is that the component weights are static.
Constructing a dynamic performance-based machine learning algorithm might be an inter-
esting topic for further research.
At the end of December 2017, CBOE Global Market and CME Group launched the
first BitCoin futures contracts. These BitCoin derivatives are traded on regulated markets,
attracting more investors. The existence of BitCoin derivatives will open many new fields
of interesting financial research regarding cryptocurrencies. An interesting advantage of
derivative contracts is that transaction costs are generally lower compared to normal trades.
Hence, research on technical trading of derivative contracts might be an interesting topic
for further research, both for practitioners and academics.

43
 A Appendices
A.1 Trading Rule Parameterizations
The parameterizations of the trading rules are primarily based on Scholtus & van Dijk
(2012), who evaluate trading rule performance for time intervals of 30 seconds, 60 seconds
and 5 minutes and Hudson et al. (2017) who evaluate technical trading rules for 5- to
60-min time intervals. The parameterizations are given in table 17. The total number of
trading rules is given by

(225 + 396 + 270 + 360 + 180 + 495 + 180) + (396 + 270 + 260 + 180) = 3312. (A.1)

Table 17: Trading rule parameterizations

Trading rule Parameters Description Values

F x Threshold for long/short signal 0.0005, 0.001, 0.0025, 0.005, 0.01
(225) e Length of time interval for alternative extrema −, 3, 6, 12, 24
d Time delay filter 0, 1, 3
c Holding period 0, 2, 6

MA q Length of short-run moving average 2, 4, 6, 8

(396) j Length of long-run moving average 4, 6, 12, 24
b Threshold for long/short signal 0.0005, 0.001, 0.005, 0.01
d Time delay filter 0, 1, 3
c Holding period 0, 2, 6

SR n Evaluated time intervals 3, 6, 12, 24, 36

(270) b Threshold for long/short signal 0, 0.00025, 0.0005, 0.001, 0.0025, 0.005
d Time delay filter 0, 1, 3
c Holding period 0, 2, 6

CB n Evaluated time intervals 3, 6, 12, 24, 36

(360) x Maximum bandwidth to form a channel 0.005, 0.01, 0.02, 0.03
b Threshold for long/short signal 0, 0.0001, 0.00025, 0.0005, 0.001, 0.002
c Holding period 0, 2, 6

RSI m Evaluated time intervals 3, 4, 6, 12, 24

(180) v Threshold for long/short signal 10, 20, 30, 40
d Time delay filter 0, 1, 3
c Holding period 0, 2, 6

OBV q Length of short-run moving average 2, 4, 6, 8

(495) j Length of long-run moving average 4, 6, 12, 24
b Threshold for long/short signal 0.05, 0.1, 0.25, 0.5, 1
d Time delay filter 0, 1, 3
c Holding period 0, 2, 6

BB j Length of moving average and volatility 3, 4, 6, 12, 24

(180) k Bandwidth; number of standard deviations 0.25, 0.5, 1, 2
d Time delay filter 0, 1, 3
c Holding period 0, 2, 6

Technical trading rule parameters. The set of trading rules consists of filter (F), moving average
(MA), support and resistance (SR), channel breakouts (CB), relative strength indicator (RSI), on-
balance volume average (OBV) and bollinger band (BB) rules. The number of standard trading rules
within each type is given below the abbreviation.

44
A.2 Tables

Table 18: Fee schedule BitStamp exchange

30-day volume (USD) Fee

< 20.000 0.25%
< 100.000 0.24%
< 200.000 0.22%
< 400.000 0.20%
< 600.000 0.15%
< 1.000.000 0.14%
< 2.000.000 0.13%
< 4.000.000 0.12%
< 20.000.000 0.11%
> 20.000.000 0.10%

The transaction cost schedule applicable for the BitStamp exchange.

A.3 Figures

Figure 11: Cumulative log returns of the bollinger band trading rules

(a) Excluding transaction costs (b) Including transaction costs

Figure 11a shows cumulative log returns of all bollinger band trading rules over the full sample
period without transaction costs. Interestingly, the returns seem to cross only rarely. Figure 11b
shows cumulative log returns of all bollinger band trading rules over the full sample period including
transaction costs of g = 13 basis points. The dark line is the BB(4, 0.25, 0, 0) strategy.

45
 Figure 12: Trading signals of BB(4, 0.25, 0, 0)

Trading signals of the bollinger band BB(4, 0.25, 0, 0) strategy over a focused period of 50 time
intervals. The black line represents the exchange rate pt . The dotted lines are the bollinger bands
determined as k = 0.25 times the moving standard deviation distance from the moving average. The
blocks represent the periods in which the strategy takes a long position in the foreign currency.

Figure 13: Cumulative returns of the filter F (3, 0.001, 1, 0) strategy with transaction costs.

Cumulative excess log returns of the filter F (3, 0.001, 1, 0) strategy over the full sample period with
transaction costs. The dark line represents excess log return of the F (3, 0.001, 1, 0) strategy, the gray
line the buy-and-hold benchmark.

46
 Table 19: Descriptive statistics of BitCoin prices, volume and returns based on 5-min data

Volume (B) Prices ($) 5-min log returns ($)

Year 5-min intervals Volume Trades Mean SD Min Max Mean (bps) SD (bps) Skew Kurt Min Max ADF LBQ
2011 31 514 7793 604 3.8 1.1 2.2 15.0 −0.085 141.4 −36.41 8796 −1.71 1.23 −178* 7
2012 105 408 567 949 73 081 8.2 3.1 3.8 16.4 0.101 52.2 2.99 1127 −0.38 0.46 −354* 1301*
2013 105 120 5 031 147 2 148 708 187.5 242.2 12.8 1163.0 0.382 77.0 4.21 569 −0.37 0.61 −346* 1876*
2014 105 120 5 024 184 3 587 679 525.5 143.6 275.0 995.0 −0.078 34.8 0.21 60 −0.09 0.15 −383* 3138*
2015 105 120 5 525 311 2 737 900 272.3 59.0 152.4 502.0 0.028 28.3 −4.82 387 −0.21 0.09 −366* 2381*
2016 105 408 1 992 263 1 692 727 565.8 137.4 352.0 980.7 0.077 18.9 −0.74 68 −0.06 0.08 −402* 4836*
2017 57 005 2 156 812 2 207 494 1548.7 648.9 751.3 2980.0 0.142 32.3 −2.83 139 −0.16 0.07 −263* 735*

* significance at a 1% level.
Descriptive statistics on volume, prices and 5-minute log returns of the USD/BTC exchange rate traded on the Bitstamp exchange. As the dataset starts at
03-09-2011 and ends at 17-07-2017, the descriptive statistics for 2011 and 2017 are determined over a shorter period. Standard deviation is abbreviated as
‘SD’, Augmented Dickey-Fuller as ‘ADF’ and Ljung-box Q as ‘LBQ’.
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