Today we’ll present a strategy that we first wrote about some years ago – an article called big moves on Mondays – but we have made a small twist to the strategy. We call the strategy for the Monday Reversal Trading Strategy and it works pretty well on the S&P 500 and Nasdaq.
Additionally, we update the original article with newer data and test it from 1980 up to June 2021. Prior to 1980, the strategy performed poorly.
The Monday reversal trading strategy in the S&P 500 and Nasdaq
Why do we trade on a Monday and not the other days? Because Mondays are part of the Tuesday turnaround strategy.
Mondays have historically tended to reverse big moves – both up and down. To exploit this tendency, or perhaps we can call it a seasonality, some years ago we made a strategy based on this.
However, the strategy can be improved. We added another criterion to the exit and rewrote one criterion on the entry:
The Monday reversal trading strategy in plain English:
In plain English the strategy is like this:
- Calculate a 25 day average of (h-l).
- Today is Monday.
- Close today must be at least lower than (from Friday) 0.25 of average in number 1.
- (c-l)/(h-l), the Internal Bar Strenght Indicator, must be lower than 0.3.
- If conditions in 2, 3, and 4 are met, go long at the close.
- Exit at the close on Friday or when the close is higher than yesterday’s high.
Although having six points the Monday reversal trading strategy is still pretty simple.
The strategy’s performance in the S&P 500
If you invested 100 000 in this strategy in 1980 and reinvested/compounded the equity until June 2021, you would have fared like this (S&P 500):
The CAGR is 5.7% and you would have been invested only 4.4% of the time. Because of the limited time in the market, the max drawdown is 23% which happened during the bear market in 2002/03.
During the FGC in 2008/09, the Monday reversal trading strategy performed pretty well with a 25.5% gain.
All in all, the number of trades is 326 and the average gain per trade is 0.73% and the profit factor is 3.24.
We believe these are pretty good numbers for such a simple idea!
The annual returns look like this:
The strategy’s performance in Nasdaq:
If we test the exact same criteria on the Nasdaq and the ETF with the ticker code QQQ we get this equity curve:
The average gain per trade is 1.1% over 158 trades. The CAGR is 7.5% – pretty good considering the strategy is invested less than 5% of the time.
Conclusion:
The Monday reversal trading strategy seems to be a real inefficiency in the markets that has lasted for over 40 years.
Will it continue? That is, of course, always the big unknown in trading.
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FAQ:
– What is the Monday Reversal Trading Strategy, and how does it work?
The Monday Reversal Trading Strategy is designed to take advantage of historical patterns where Mondays tend to reverse significant market moves. It involves specific criteria for entry and exit to trade on Mondays.
– What are the key criteria for entering the Monday Reversal Trading Strategy?
The entry criteria include calculating a 25-day average of high-low (h-l), ensuring it’s a Monday, requiring today’s closing price to be at least 0.25 of the average calculated in step one, and examining the Internal Bar Strength Indicator (c-l)/(h-l), which must be lower than 0.3.
– How does the Monday Reversal Trading Strategy perform in the Nasdaq market?
When the same criteria are applied to the Nasdaq (using the QQQ ETF), the strategy demonstrates an average gain per trade of 1.1% over 158 trades and a CAGR of 7.5%. This is noteworthy given that the strategy is active less than 5% of the time.
