Price Bounce From the 200-Day Moving Average

There are many ways to determine a reversal and correction in the motion of the quotes of financial instruments.

In the proposed research, we want to highlight and test such a well-known signal as the bounce from the 200-Day Moving Average.

The Moving Average (MA) is one of universal and popular indicators on the market which can be used for trend-based trading.

In his book “Technical Analysis. Full Course”, Jack D. Schwager describes moving averages in the following way: «Moving averages provide a very simple means of smoothing a price series and making any trends more discernible. A simple moving average is defined as the average close of the past N days, ending in the current day».

What periods from moving averages are the most effective for trading on the exchange? Traders discuss this issue in forums and blogs.

An MA with the 200-day period is considered as one of the most popular moving averages.

The 200-day moving average is widely used by traders as it is viewed as a good indicator of a long-term trend. If the price constantly stays above the 200-day moving average, the trend can be viewed as an uptrend. Markets which are consistently traded below the 200-day moving average are in a downtrend. In particular, it is traditionally accepted on Wall Street that if the market is above the 200-days MA, the «bulls» dominate; if lower – «bears».

The moving average serves itself as a dynamic support or resistance level depending on the current market trend.

The method of signal detection

We will determine the pattern on charts with the following method (for the price tangency of MA 200 in the uptrend):

• We put the MA 200 indicator on the daily chart of the financial instrument’s price;
• We determine that the low of two preceding candlesticks (“3” and “2” in the picture to the left) is above MA 200;
• We notice that the low of the recently formed candlestick (“1” in the picture to the left) is below MA 200 and the close is above MA 200;
• Once the pattern is formed, we place an open-to-buy order.

Or:

• We put the MA 200 indicator in the daily chart of the financial instrument’s price;
• We determine that the low of the preceding candlestick (“3” in the picture on the right) is above MA 200;
• We notice that the close of the preceding candlestick (“2” in the picture on the right) is below MA 200 and the close of the recently formed candlestick (“1” in the picture on the right) is above MA 200;
• Once the pattern is formed, we place an open-to-buy order.

The forming of a price bounce from MA 200 in the uptrend has been described above. For a downtrend, the situation is the reverse of what has been described.

We test the sampled events with a great number of historical data of various financial instruments.

Now we will specify the conditions of opening and closing a trading position.

Opening a position:

After has been formed, the position opens at the opening of the new candlestick.:

• At the tangency of the 200-day moving average in the uptrend is a buy;
• At the tangency of the 200-day moving average in the downtrend is a sale.

Closing a position:

In all situations, we set the life time of the position at 5 or 10 candlesticks.

As we have assessed all conditions and set up all necessary parameters, we can start testing!

The analysis of the results obtained

First, we will assess the obtained results on the size of the sample:

Total: 218 629 candlesticks and 4 032 events (tangencies).

Then we will estimate the share of events in % within the total number of the original candlesticks:

By grouping the results, we can make a conclusion that irrespective of the market segment, the distribution of the reviewed events is almost the same, namely from 1.7 until 2.3%.

Now we will turn to the results of trading signals’ performance obtained as the result of the formed tangencies.

We will assess the results with two criteria:

• Momentum (m) reflects the average increment of quotes changes of financial instruments by the moment of the position fixation the position, in %. A positive momentum value indicates the signal profitability, a negative value indicates loss-making.
• SPP is the share of profitable positions, %.

Momentum in % and the Share of profitable positions in % on a term-by-term basis of the hold of positions and market segments:

4 of 6 average momentum values are positive on the parameters.

Yet, we can distinguish several peculiarities.

We will graphically introduce the results by showing the distribution of the momentum (m) relative to every considered parameter (the candlestick of the position closing, the market segment):

The diagram above shows the distribution of the momentums depending on considered parameters. The diagram consists of two parts: a “box” and “tails” or “whiskers”. 50% of observed values are put into the box, the rest 50% are shown as tails. The end of the lower tail represents the lowest number of observed values, the end of the upper tail – the greatest. The average value is shown by the cross.

The analysis of the obtained results allows us to make the following conclusions:

• The average momentum value with the position fixation at the 10th candlestick is above the average value of fixation at the 5th candlestick which means a greater rate of return of position closing at the 10th candlestick;
• The best momentum (in comparison with others) is noticed on Indices.

We will look at the results on the term-to-term basis of position hold times and market segments.

Let us use the following notation:

SPP – the share of profitable positions, %.

Position fixation at the 5th candlestick

Position fixation at the 10th candlestick

We will summarize the obtained results using the following diagram:

The momentum of the considered signal is negligible, so we can refer to it as ineffective.

XLSX (0.07 MB)Application to the article 'Price rebound from the 200-period daily moving average'.xlsx.xlsx