Thursday, March 23, 2006

Short-Term Countertrend Equivalence

My last post introduced the idea of countertrend equivalence: Once we get a solid trend reading for a period of time X, the next period X tends to reverse this trend. We saw that this occurred over a five-day period: if we have a strong trend over five days in SPY, the next five days tend to run counter to this trend.

I took a look at hourly SPY data going back to 11/21/05 (N = 586). When we've had a strong uptrend over a five hour period (N = 75), the next five hours in SPY average a loss of -.08% (33 up, 42 down). That is weaker than the average five-hour gain of .04% (312 up, 274 down) for the general sample.

When we've had a strong downtrend over a five-hour period (N = 47), the next five hours in SPY have averaged a gain of .18% (29 up, 18 down). This is noticeably stronger than the sample overall.

Once again, we see evidence of countertrend equivalence. I will pursue this topic further in my upcoming Trading Markets article.


John Wheatcroft said...

Have you looked at any of Tom Demark's work on identifying reversals off trending data?

Brett Steenbarger, Ph.D. said...

Hi John,

No, I'm not familiar with that work. I do think looking for shifting supply/demand as trending moves peter out is a worthwhile direction. My experience is that patterns of those shifts are different at market tops and bottoms. Also an area for research--


Paulo de León said...

Nice work. This research shows that up to now, buy the dips is better than sell the rallies. The market has been tough for the last months, my long strategies are perfoming normal, but the short ones are crushing, shortin has been ever harder the longing the ES market......i´ve read a nice paper written by eclipse capital managers (, that confirms that shorting has been the loosing game in the last years, since they follow many markets the conclusion is broad......excess liquidity, buying everything seems to me......

Brett Steenbarger, Ph.D. said...

Yes, I'd say that is true. Shorting has been more difficult of late, particularly on a multi-day basis. The traders I know who are successful in shorting are taking quicker, intraday profits.