High-Low Bands – Strategy And Rules (21% annual Returns)

In the fast-paced world of financial trading, everyone is looking for better tools to improve their technical analysis, and one such tool is the High-Low Bands indicator. What do you know about this indicator?

The High-Low Bands are two lines plotted at a certain percentage (usually 5%) above and below a triangular moving average of the underlying price to create a sort of bands around the highs and lows of the price action. A triangular moving average, which forms the middle line of the indicator, is a double-smoothed simple moving average of the price.

In this post, we will take a look at the details of the high-low bands indicator: what it means, how to calculate it, interpret it, and use it in trading. Let’s dive in!

Key takeaways

• The High-Low Bands are two lines plotted at a certain percentage above and below a triangular moving average of the underlying price to create a sort of bands around the highs and lows of the price action.
• In stocks, the bands are normally traded as a mean reversion strategy.
• In other assets, it could signal a breakout.
• We backtest a High-Low Bands trading strategy.
• The High Low Bands are just one of many trading indicators we have looked at.

What are High-Low Bands in trading?

In trading, the High-Low Bands are two lines plotted at a certain percentage (usually 5%) above and below a triangular moving average of the underlying price to create a sort of bands around the highs and lows of the price action.

Thus, it consists of 3 lines: a triangular moving average line, which is a double-smoothed simple moving average of the price and forms the middle line of the indicator; the high line, which is plotted 5% above the triangular moving average; and the low line plotted 5% below the triangular moving average.

These lines create some sort of parallel bands that follow price action. Just like the moving average envelope and fractal chaos bands, the high-low bands can be used to determine whether or not the market is trending, as it helps to filter out minor price fluctuations (market noise).

When the market is trending, the high-low bands slope in the direction of the trend — in an uptrend, they slope upward, and in a downtrend, they slope downward. On the other hand, when the market is choppy, moving sideways, or consolidating, the bands are flat.

High Low Bands trading strategy – trading rules, return, and performance

Let’s make a trading strategy based on the High Low Bands:

We make the following trading rules:

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We backtest these trading rules on the stocks in the Nasdaq 100 from 1990 until today. We trade all stocks ever listed (no survivorship bias), the close must be above 7 (to avoid penny stocks), and we only trade stocks that have at least 1 million shares traded per day on average.

We get the following equity curve from 1990 until today:

We allocated 20% for each trade, and thus, we can have a maximum of 5 positions at any time.

There have been 3088 trades, and the average gain per trade is 1.3%. The win rate is 63%, annual returns (CAGR) are 21%, time spent invested is 81%, and the max drawdown is 48%.

The complete code for the strategy is here (Amibroker code):

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How do High-Low Bands help in market analysis?

The high-low bands help in market analysis by using a triangular moving average, which is a double-smoothed moving average, to filter out market noise and make it easy to identify the direction of the trend. The slope of the triangular moving average follows the direction of the trend, and the high and low bands, which are plotted at a certain percentage away, simply follow the moving average.

So, traders can use the slope of the indicator to know the direction of the trend. In an uptrend, the indicator slopes upward, and in a downtrend, it slopes downward. The more steep the slope, the stronger the market trend. When the bands are flat, it means the market is choppy, moving sideways, or consolidating. A breakout above or below a flat band can be a strong signal to trade in that direction.

What data do High-Low Bands use?

High-Low Bands make use of the price data and the data of the simple moving average used in calculating a triangular moving average. The indicator is based on a triangular moving average, which forms the middle line — the high and low bands are percentage shifts above and below the moving average.

Since the triangular moving average is calculated by finding an n-period simple moving average (SMA) and then an n-period moving average of the SMA, the data used in calculating this indicator is the underlying price data and the SMA data.

Are High-Low Bands the same as Bollinger Bands?

No, high-low bands are not the same as Bollinger Bands, and here’s why: High-low bands are based on triangular moving average and are plotted at a certain percentage above and below the moving average, while Bollinger Bands are based on a simple moving average, with the bands plotted a certain number of standard deviations above and below the moving average.

So, while both indicators are based on the same concept, they make use of different tools in creating the bands.

How are High-Low Bands calculated?

The high-low bands are calculated using the following steps:

1. Determine the periods to use for the triangular moving average — the default period is usually 10.
2. Calculate the triangular moving average (TMA) for the chosen periods as follows: SMA = (P1 + P2 + P3 + … + Pn)/n. Then, TMA = (SMA1 + SMA2 + … SMAn)/n.
3. Choose the percentage deviation for high and low bands — say, 5% (0.05).
4. Calculate the high band — this is done by adding the percentage deviation to the TMA as follows: High band = n-period TMA + (n-period TMA x 0.05).
5. Calculate the low band — this is done by subtracting the percentage deviation from the TMA as follows: Low band = n-period TMA – (n-period TMA x 0.05)).

What periods are used for calculating High-Low Bands?

The number of periods used for calculating the high-low bands depends on the trader’s preference. However, the default period used in the calculation on many platforms is 10. As a trader, you can use the period that suits your trading strategy and the market you are trading.

The best way to know the right period for your strategy and the market you’re trading is to backtest your strategy using different periods to know the one that performs the best.

Do High-Low Bands need any adjustments for different markets?

Yes, high-low bands may need adjustments for different markets because different markets move differently. So, market conditions are not the same for all markets. In stocks, for example, you may find that the default 10-period TMA with a 5% band deviation works well, but those same settings may perform poorly in the commodity market or forex.

To know the right settings for the different markets, you have to backtest the indicator in those markets using different settings to know the best settings for each market and adjust accordingly.

What settings are best for High-Low Bands?

The best settings for high-low bands will depend on the strategy you are using and the market you’re trading. What works in one market may not work in another and may not even work in the same market if market conditions change.

To know the best settings for high-low bands for whatever instrument you are trading, you have to backtest the indicator using different settings.

How do settings affect High-Low Bands’ sensitivity?

Settings affect high-low bands’ sensitivity by influencing the extent of smoothing applied by the triangular moving average and the size of percentage deviation the bands are set from the TMA. If the number of periods you set is small, the TMA smoothening will be less and the indicator may generate more false trend signals and vice versa.

Similarly, if the percentage deviation is smaller, the gap between the bands becomes smaller and there will be more false breakout signals.

How do traders use High-Low Bands for buying stocks?

To use high-low bands for buying stocks, traders look for bullish breakouts after the price has been consolidating for a while. When the price is consolidating, the high-low bands are usually flat, with the price action within the bands.

A breakout above the upper band indicates the price’s willingness to trend higher and is considered a buy signal. When this signal occurs, traders will seek to buy the stock, especially if the stock has been trending up before then.

How are High-Low Bands used to sell stocks?

To use high-low bands to sell stocks, traders look for downward breakouts after the price has been consolidating for a while. During a consolidation phase in the price cycle, the high-low bands are usually flat, with the price action within the bands.

A breakout below the lower band indicates the price’s willingness to trend lower and is considered a sell signal. When this signal occurs, traders will seek to sell the stock, especially if the stock has been trending down before then.

Can High-Low Bands predict market turning points?

Yes, the high-low bands indicator can predict market turning points when its slope sharply changes direction following a breakout in the new direction. The slope of the TMA indicates the trend direction, so when it changes to a new direction, it could mean that the price has changed direction.

However, given that the TMA often lags the price, as it is calculated from past price data, it only shows what has happened, rather than predicts a future event.

How do High-Low Bands compare to moving averages?

The high-low bands indicator compares favorably to moving averages, as it is based on a triangular moving average, which is a double-smoothed simple moving average. Apart from its slope showing the trend directions, as moving averages do, its bands can be used to analyze price consolidations and generate breakout signals.

In that sense, it may be better than moving averages.

What makes High-Low Bands different from RSI?

What makes high-low bands different from the RSI is that the former is a trend-following indicator, while the latter is a momentum oscillator. High-low bands can be used to identify the trend direction and trade breakout strategies.

The RSI, on the other hand, is used to find overbought and oversold market conditions and anticipate changes in market momentum via its divergence from the price swings.

Are High-Low Bands better than MACD for trend analysis?

Whether high-low bands are better than MACD for trend analysis will depend on the trader’s trading style and strategy, as well as the settings of both indicators. If the trader is interested in short-term price trends, the MACD may be a wonderful indicator to show the momentum of those short-term price moves.

On the other hand, if the trader is more interested in medium-term trends, the high-low bands may be fine when used with the right settings.

What are basic trading strategies using High-Low Bands?

Basic trading strategies using high-low bands include:

• Breakout strategies: These are strategies that look to enter a buy trade when the price breaks above a consolidation and enter a sell trade when the price breaks below a consolidation. When the price is consolidating, the high-low bands are usually flat, with the price action within the bands. So, the indicator can easily be used for a breakout strategy.
• Trailing stop in a trend-following strategy: Traders who hold their trades until the end of the trend usually trail their profits with a trailing stop-loss order. The lower or upper band can guide their trailing stop-loss order — in a long trade, the trailing SL could follow a few pips below the lower band, while in a short trade, it could be a few pips above the upper band.

Can High-Low Bands be combined with other indicators?

Yes, high-low bands can be combined with other indicators to get better trading signals. In a trend-following strategy, you can combine high-low bands with volume indicators to know the volume behind a breakout.

This can help confirm whether a breakout is valid or not — breakouts that occur on huge volumes are often considered valid.

What is a dual band strategy with High-Low Bands?

A dual band strategy with high-low bands is an approach that uses two indicators of different settings to identify potential buy and sell zones. The strategy is for those who want to implement mean reversal approaches but can also be used for trend following when the breaks above a consolidation zone.

Can you give an example of High-Low Bands in a bear market?

An example of high-low bands in a bear market is the chart below. It is a gold futures chart showing a bear market. You can see that the price consolidated for a long time, as evidenced by the flat high-low bands after the first wave down. Then, the price broke below the low band and started another wave down.

How do High-Low Bands behave in a bull market?

In a bull market, high-low bands tend to slope upward, indicating that the trend is to the upside. In such a market situation, the price is usually trading above the high band. But during periods of a pullback or minor consolidations, the price will tend to fall within the bands and the slope will flatten.

The next upswing will break above the high band as the market rallies.

What are some real-world success stories using High-Low Bands?

Some real-world success stories using high-low bands include:

Example 1: Gold upside breakout:

In the gold futures chart below, you can see that the price breaks above the high band when the indicator bands are flat, and this marked the beginning of a massive price rally. A buy trade at the breakout with a trailing stop below the low band would be a successful trend-following trade.

Example 2: Gold downside breakout:

In the gold futures chart below, you can see a downside breakout below the low-band after the slope of the indicator changed direction, making a change in the trend direction. An exit when the price crossed the upper band later would have yielded a successful trade with good profits.

Why is technical analysis important in trading?

Technical analysis is important in trading because the price action shows the effect of every factor that can affect the price — it is a representation of the effects of all the forces in the market (it discounts everything).

Also, the market has memory and tends to remember where it encountered difficulties in the past. As a result, history repeats itself. You use technical analysis to identify this history and project how it may repeat itself.

What is the role of volatility in High-Low Bands?

The role of volatility in high-low bands is that it can affect the size of the gap between the high and low bands. When volatility is high, non-directional price swings are high and this increases the size of the gaps between the bands. But when volatility is low, price swings are smaller and the gap between the bands is small.

How do trends affect High-Low Bands analysis?

Trends affect high-low bands analysis by influencing where the bands will slope. Since the bands slope in the direction of the trend, they slope upward when the trend is up and downward when the trend is to the downside. In a trending market, the best approach with the high-low bands is the breakout strategy, especially in the direction of the trend.

What are the limitations of using High-Low Bands?

The limitations of using high-low bands include the following:

• The indicator doesn’t seem to work well when the market is choppy or moving sideways, as it gives many false breakouts.
• The triangular moving average the indicator is based on lags the price by a lot since it is double-smoothed.
• You cannot use it as a standalone trading strategy.

What risks are involved in relying solely on High-Low Bands?

The risks involved when relying solely on high-low bands include:

• It can give too many false breakout signals, especially if the market is choppy.
• It cannot tell you where the breakout will occur.
• You may not know where to take profit even when you’re in a profitable trade.

How accurate are High-Low Bands in fast markets?

How accurate the high-low bands can be in fast markets depends on the strategy you are using and whether the market is trending in one direction or not. If the market is mainly trending in one direction, breakout signals in that direction can be very accurate.

But if the fast market has no defined direction, the high-low bands will give inaccurate signals.

How do algorithmic traders use High-Low Bands?

Algorithmic traders use high-low bands to create trend-following strategies. Such strategies are often based on breakouts of price consolidations.

A bullish breakout in an uptrend enters a buy trade, and the profit can be trailed with a stop-loss order that follows the low band. In a downtrend, a bearish breakout will enter a sell trader, and the trade can be trailed with a stop loss that follows the high band.

What are the mathematical principles behind High-Low Bands?

The mathematical principles behind high-low bands are the statistical concepts of central tendency and variation. The triangular moving average used as the middle band of the indicator represents the central tendency, while the percentage deviation from the moving average represents price variation.

How can machine learning enhance High-Low Bands’ effectiveness?

Machine learning can enhance high-low bands’ effectiveness by identifying the market conditions when the indicator performs best and ensuring it is used only in such market conditions. During market conditions where the indicator doesn’t do well, it is switched off.