The Significance of Closing Prices to Their Daily Bar Range

About a decade ago we quantified the significance of where a stock closes in its daily range and the short-term impact of that close. What we found was that oversold stocks that closed in the bottom of their range tended to be have greater short-term edges than stocks that did not.

The following is a recent study done by Quantitative Systematic Market Analysis, a very well written blog. The study was done on ETFs and is consistent with the studies we’ve shown in stocks. Also, look through his blog because he has topics which will likely be of interest to you.

http://qusma.com/2013/09/11/paper-the-ibs-effect-mean-reversion-in-equity-etfs/

Algorithmic Trading Strategies

Ernie Chan is one of my favorite researchers and I always enjoy reading his work. I just completed his new book “Algorithmic Trading: Winning Strategies and Their Rationale” and highly recommend it. I immediately came up with strategy ideas which we are now testing and anyone reading this book will be able to do the same.

Quantitative Research Goldmine

I’ve mentioned this site before and it’s worth mentioning again because of the depth of research fund on it.

The Whole Street http://www.thewholestreet.com is a site which aggregates quantitative research and commentary found throughout the world.  If you are looking for high quality quantitative research on many different markets, you can find it on this site. It’s well worth bookmarking.

Analyzing VXX Trading

Russell Rhoads is one of my favorite analysts when it comes to trading the VIX and other volatility products. Here is an article that he wrote which was republished this weekend. There’s very good baseline information on VXX here. I found Number 4 to be especially interesting.

http://www.thestreet.com/story/11976706/1/5-misperceptions-about-vxx.html

Trading Beyond the Matrix

I’d like to recommend a new book on trading psychology just published by Van Tharp. I began reading it Sunday night and the book goes far deeper than any trading psychology book I’ve ever read.

Also, one of our Chairman’s Club Members is featured in Chapter 2 and it’s always great to see success like this gentleman is having.
If you are looking to improve your trading, buy this book.

Trading Beyond the Matrix: The Red Pill for Traders and Investors
Van Tharp

http://www.amazon.com/Trading-Beyond-Matrix-Traders-Investors/dp/1118525…

The Death of Intra-day Reversals?

If you speak to enough traders, you’ll hear a general consensus that the market has changed the past few years, especially last year.

High volatility securities which used to mean revert, didn’t do so as much last year. Rotational strategies in S&P stocks and high quality stocks, like the Rotational strategies found in The Machine had extraordinary years in 2012, far surpassing the index averages. I can list more examples of this but as many people have seen, it was a year which buy and hold returned, bonds were king, quality was in, and trading reversals was not.

One of the metrics I’d like to share with you to further understand the market over the past year is the following.

We ran the following test. We looked at SPY every day from 1995 -2011 and asked, how many times was SPY up (down) ½% intraday and then reversed and close down (up) for the day. Here are the statistics:

Symbol Start Date End Date Intraday Reversals- Down (%) Intraday Reversals- Up (%)
SPY 1995-01-01 2011-12-31 12.56 12.84

On average over the 17 year period, whenever SPY had moved at least 1/2 % intra-day versus the previous days close, it then reversed to close in the opposite direction just over 12.5% of the time.

We then looked at the same data from 2012. And now you’ll see why so many traders are saying “2012 felt different”. In fact it was.

Symbol Start Date End Date Intraday Reversals- Down (%) Intraday Reversals- Up (%)
SPY 2012-01-01 2012-12-31 6.00 8.00

As you can see, intra-day reversals to the downside were cut in half. To the upside it was appoximately 40% lower.

There are three possible reasons for this.

1. Volatility was down.

Yes, volatility was down but if there were many years volatility was as low or lower. 2005 and 2006 are examples.

2. Markets have changed. Intra-day reversals have been squeezed by less leverage in the marketplace, high-frequency trading, an abundance of cash in the system caused by Fed easing, etc.

At this point, I’m not buying into this. In early 2007 we heard the same excuses as to why low volatility was permanent. That lasted until everyone bought into this and the last dollar got levered up. And then reality set-in.

3. 2012 was different but in the long run, market behavior evens out.

If you look at markets over many years, behavior tends to average itself out. The best example is the outsized gains of the 90’s were averaged out by the lack of gains in the 2000’s. Combining them together looked more in line with historical returns. And the same will likely occur when it comes to intra-day reversals. Eventually, (possibly very soon) you’ll see an abundance of them.

Obviously those traders who said 2012 felt different are right. It was different. Intra-day reversals are just one of many things that were different. But, if you buy into belief that market behavior eventually averages itself out (it reverts to its long term mean) then over time the market will again move back to its ways of swinging intra-day. And strategies which rely upon this behavior will again be the big winners. If you have strategies which trade intra-day and rely upon intra-day reversals, you may want to keep an eye on them. Because if their behavior begins reverting to its mean, they’re going to potentially have a big run sometime in the near future.