Trading Strategies

This note will describe the main categories of trading strategies.
There are 2 main trading strategies: Trend Following and Mean Reversion.

There are other strategies as well, but they will be elaborated on at a later stage.

Trend Following

Objective: To enter when a new trend is established, and exit when the trend is over.

Indicators:

  • Moving averages (most common)

  • Trendlines

  • Average Directional Index (measure trend strength)

  • Linear Regression (forecast, slope)

  • Supertrend

Challenge: Maintain small losses for losing trades.

Summary

Trend following have a few great trades with larger profits, and small losses on a larger amount of trades. Can go through periods of poor performance.

Mean Reversion

Objective: Assuming the price will revert back to a mean. Look to buy oversold, and sell overbought.

Indicators:

  • Relative Strength Index
  • Bollinger Bands
  • Disparity Index (distance from moving average)
  • Stochastic oscillator

Challenge: Mean reversion is exposed to left tail risk (huge infrequent losses). Can take a long time to recover from big losses.

Summary: Mean reversion typically have small consistent profits, and low volatility in the strategy.

Trend Following vs Mean Reversion

Comparison of key performance metrics:

Performance Metric Trend Following Mean Reversion
Win rate Low High
Trade duration Long Short
Number of trades Low High
Profit per trade Higher Low
Volatility High Low