Reversion to The Mean – End of Day Trading Strategies
This article is a follow-up to the article I wrote on reversion to the mean trading where I targeted a projected middle (or median) value on a weekly candlestick based on the middle values of the previous two weekly candlesticks. The previous trading strategy was an end of week trading strategy, this strategy however is a simpler end of day trading strategy. It is not a trading system to be traded as it is, rather, this article is just another attempt to see if there is any statistical edge to be found in the 'reversion to the mean' trading strategy, this time using end of day data.
The experiment rules are as follows –
Experiment #1: If today's price closes higher than yesterdays price then bet on the price falling tomorrow; enter short on the close and hold the position until the market closes the following day. Likewise, if today's price closes lower than yesterdays price then bet on the market rising tomorrow; enter long on the close and hold the position until the market closes the following day.
Experiment #2: If today's price closes at least 0.25% higher than yesterdays price then bet on the price falling tomorrow; enter short on the close and hold the position until the market closes the following day. Likewise, if today's price closes at least 0.25% lower than yesterdays price then bet on the market rising tomorrow; enter long on the close and hold the position until the market closes the following day.
Experiment #3: If today's price closes at least 0.50% higher than yesterdays price then bet on the price falling tomorrow; enter short on the close and hold the position until the market closes the following day. Likewise, if today's price closes at least 0.50% lower than yesterdays price then bet on the market rising tomorrow; enter long on the close and hold the position until the market closes the following day.
Experiment #4: If today's price closes at least 1.00% higher than yesterdays price then bet on the price falling tomorrow; enter short on the close and hold the position until the market closes the following day. Likewise, if today's price closes at least 1.00% lower than yesterdays price then bet on the market rising tomorrow; enter long on the close and hold the position until the market closes the following day.
Experiment #5: If today's price closes at least 1.50% higher than yesterdays price then bet on the price falling tomorrow; enter short on the close and hold the position until the market closes the following day. Likewise, if today's price closes at least 1.50% lower than yesterdays price then bet on the market rising tomorrow; enter long on the close and hold the position until the market closes the following day.
The logic behind these tests is simple, if the market has moved in one direction with a certain degree of significance, is it likely to revert back towards its mean or is it likely to continue to move in that direction? These tests are designed to try and shed a little more light on that question. I will test this on the S&P 500 and the EUR/USD from the beginning of the year 2000 to date (19/08/2011). The results are as follows –
Market
% Movement
No Of Winning Trade
No Of Losing Trades
Percentage Of Trades That Win
Pips/Points Won
Pips/Points Lost
Winnings To Losses Ratio
S&P 500
0.00%
1567
1367
53.59%
16,792.86
13,944.20
1.204 to 1
S&P 500
0.25%
1191
1044
53.29%
13,500.32
11,041.70
1.223 to 1
S&P 500
0.50%
880
810
52.07%
10,258.02
8,914.98
1.151 to 1
S&P 500
1.00%
514
433
54.28%
6,460.30
5,126,64
1.260 to 1
S&P 500
1.50%
299
234
56.10%
4,058.20
2,862.80
1.418 to 1
EUR/USD
0.00%
1708
1556
52.33%
92,996
86,796
1.071 to 1
EUR/USD
0.25%
1015
924
52.34%
56,160
52,693
1.066 to 1
EUR/USD
0.50%
621
553
52.90%
35,047
31,871
1.100 to 1
EUR/USD
1.00%
198
180
52.38%
11,388
11,854
0.961 to 1
EUR/USD
1.50%
51
52
49.51%
3,113
4,389
0.701 to 1
As I expected, these results show that after a significant movement in one direction stock indices are likely to revert back, whilst currencies like the EUR/USD are more likely to continue to go with the flow. The more significant the movement the more likely a stock market index is to reverse and the more likely a currency is to continue moving in that direction.
