Recent history suggests we should sell any bounce over the next 1-3 days. Recent and long term history both show an edge that develops about 2 weeks after the setup.
The Rules:
- Buy SPY or $SPX at the Close after 6 Consecutive Lower Closes
- Sell at the Close X Days Later
- No Commission or Slippage Included
- All History Used for each Security
The Results:
SPY Results Above
- Right Axis is the % of Winners
- Left Axis is the Avg % Profit/Loss
SPY gives a more recent history of this setup with 15 occurrences. The first occurrence was in 1999. Since some of the trades overlap, there are only 9 – 11 trades used to generate the graph above. (I know that is confusing. Ask in the comments section if you need clarification).
SPY history is skewed due to the bear market trades in 2008 and 2009. To illustrate this, I programmed the backtester to sell the trades at the close of the 11th day. As the graph above shows, the 11th day has been the worst. Below are the results of the trade if one sells on the 11th day:
Recent history shows that this has not been a trade that one wants to hold on to for more than a few days. However, if the trade works, a nice gain of 2% of more may be had on any bounce. Most of the gains have come by the 2nd day.
Aside: SPY volume today rose to almost twice the 50 day average. Throughout SPY history, whenever there has been 6 consecutive down days, volume is almost always above the 50 day average on the 6th lower close.
Lets look back farther by using $SPX.
$SPX Results Above
- Right Axis is the % of Winners
- Left Axis is the Avg % Profit/Loss
The first trade on $SPX was in 1960 and there has been 167 occurrences of this setup. Between 116 and 64 trades were averaged to make the graph above.
Remarkably, in over 50 years of trades, the 11th day has been the worst day to sell on. I was surprised to see that this stayed the same as with SPY.
Like the SPY results show, the best chance of selling this setup for a profit has come the 2nd day.
Bottom Line:
With the exception of the next few days of trading, this setup has been bearish to neutral. A disciplined trader may be able to trade this setup for profits. It will be important to realize that having to hold this trade for more than 3 probably means that the setup has failed.
While we are not able to look into the future and know exactly when the market has bottomed and is ready for a sustained bounce, this setup has surprisingly found a bottom 11 days later. Perhaps the best trade is to wait a couple of weeks and then re-evaluate.
good stuff
Thank you sir.
=> “Aside: SPY volume today rose to almost twice the 50 day average. Throughout SPY history, whenever there has been 6 consecutive down days, volume is almost always above the 50 day average on the 6th lower close.”
Excellent study, and that quick sidenote about the relative normalcy of the volume reading is like icing on the cake. Volume is always one of the ways (along with sentiment) to nuance the interpretation of objective indicator readings. To note whether volume is normal– or extremely atypical– in any situation helps to put a context on price action.
I try to recreate in imagination the actual trading scenarios that could crunch into numeric outcomes like that. It’s a form of “analogue analysis”, and should be used descriptively rather than predictively. (For example, many wise pundits have been muttering for a while “this feels like summer 2007” and by this they mean tone and tendency, and not necessarily that chart patterns will mimic that year in coming weeks.)
To produce six down days in a major index, against the normal mean reversion tendency of the market in day-to-day timeframes, some “event risk” or crisis has to be playing out. {Insert whatever, du jour.}
Or it may be the fossil tracing of a simple sheer buying or selling climax, for whatever market reason at the time.
Serious investors never jump at the first reversal or bounce. They wait for a reactive high, then a pullback which clearly shows a higher low, and then they look for an entry point. By day 6 of a move, this caution is well burned into the psyches of reversion players.
So a pattern should emerge of a normal bounce from extreme oversold or overbought levels, and especially from oversold; followed by the first normal countermove, lasting about half the time of the prior move; and then a retest of the low; and then a resumption of the major primary (bull) trend…
Thus it seems to me the “usual trading patterns” would echo and confirm the results of this study.
Right now daily stochastics (of intermediate slowness) are moving into position to where they could generate a buy signal on any strong upday, or even a series of flat days. And most longterm models are still showing a fairly strong bull market trend. The Nasdaq 100 is outperforming SPX, which is the more bullish configuration; and the moving electric fence of low interest rates keeps herding the big mutual funds and pension funds twd RISK. In such an environment ANY daily chart indicator of oscillator reversal to the upside must be respected, imo.
That said, the value of your work here Wood is that it implies any target for such an oversold move should be kept modest, given the very high likelihood of reversal, and kept short-term in concept…
Thanks again for sharing these gems of analysis with us. And btw, that Wikipedia article you linked to, in a prior comment of yours, about the wisdom of sovereign collectives of aggregated individuals was amazing. Just their Wiki capsule summary gave much food for thought. I need to go back and re-read it and follow up on some additional side links.
Daniel, I love it when you write these quasi stream-of-consciousness comments! Good stuff. Thanks!
I must have missed that reference on the sovereign collectives. Can you repost the link, Wood?
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Jake, search wikipedia for Wisdom of Crowds.
Thx!
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so basically on the 11-day we will close below the 200 ma, then the bullish statistics kick in high gear? I love serendipity =)
Hmmmm….every dark cloud has a single lining?
Really nice work.
The SPY closed pretty far below the 20,2 Bollinger bands today. Any chance you can back test what follows?
Thanks!
Bollinger Band Trade is on! 95% accuracy or some sheet.
TNA all the way.
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Aesop, I’m putting a few things up for you right now.
STRAT REQUEST:
We nearly had a 2*ATR(14) day today. What’s the SPX performance like when we get higher than a 1.6*ATR move to the downside over time? There should be enough samples.
Steve, no problem. I’ll have to look at it tonight though. Caught up on sleep last night.