Is a big trading range bullish or bearish? We look at the performance of stocks, bonds, and gold after a big trading range: a big range yesterday, here is what comes next.
What is a big trading range?
A big trading range is a period of time during which the price of a security fluctuates between two widely separated levels. This can be caused by a variety of factors, such as economic uncertainty, political instability, or simply a lack of consensus among traders about the future value of the security.
Ranges vary. In terms of uncertainty, it increases (normally), and decreases when the markets are bullish.
Big trading ranges can be challenging for traders, as they can make it difficult to predict which direction the price will move next. However, they can also present opportunities for profit, as traders can buy the security at the low end of the range and sell it at the high end.
Here are some examples of big trading ranges:
- The S&P 500 traded in a big trading range between 2008 and 2009, as the market rebounded from the financial crisis. Bear markets normally have increased volatility. The daily ranges are twice as high when stocks are below their 200-day moving average compared to when they are over.
- The price of oil traded in a big trading range between 2014 and 2016, as a result of oversupply and falling demand.
- The Japanese yen has been trading in a big trading range against the US dollar for several years, due to ongoing economic uncertainty in Japan.
It is important to note that there is no one definition of what constitutes a “big” trading range. The size of a trading range can vary depending on the type of security and the market conditions. For example, a big trading range for a stock might be 10%, while a big trading range for a commodity might be 50%. It’s best to look at relative values by using an N-day moving average.
Big (high) range trading rules
To make a backtest, we need some trading rules. We make the following:
- We calculate a 25-day moving average of the High minus the Low.
- If today had a range (High minus the Low) that was bigger/higher than the 25-day average, we go long at the close and hold for N-days (one to five trading days).
This is a pretty simple trading strategy to backtest. We get the following results for S&P 500 (SPY):
The first column indicates the return for the first trading day, row two the second trading day, etc. The average gain for any random trading day is 0.04%, so the results are not that promising: stocks perform more or less the same as any random day.
Let’s backtest TLT (long-term Treasury bonds) by using the same trading rules:
The average gain for any random day is 0.02% (for comparison). Thus, we can expect average gains in the coming days after a big range day.
We end the article by testing the same rules on the gold price (GLD):
GLD has risen about 0.04% on any random since its inception.