Last Updated on July 22, 2021 by Oddmund Groette
Back in 2016, I published an article on using short-term RSI (relative strength index) on SPY. The RSI has proven to be a valuable indicator/tool for mean reversion in the main stock indices.
In this article, look at how the RSI(2) performs on Nasdaq/QQQ – a mean reversion trading strategy. At the end of the article, we add another indicator to boost performance (successfully).
First, please read what the Relative Strength Index (RSI) is:
What is a good RSI for Nasdaq/QQQ?
RSI is a mean-reversion indicator and thus the strategy works best with a low reading on the RSI.
What is a low reading? In general, that is reading below 30. The lower the number of days used in the calculation, the more sensitive and volatile the RSI is.
In this article, we use only two days for the RSI. This means a low reading on the RSI is required:
RSI on Nasdaq/QQQ:
Let’s test the RSI by setting the RSI-reading to lower than 10. The rules are like this:
- RSI(2) must be lower than 10.
- If number one is true, then enter at the close.
- Exit at the close when today’s close is higher than yesterday’s high.
These simple rules produce this equity curve (logarithmic chart):
The numbers look like this:
Buy and hold returns 6.39%, while the strategy returns 10.01%, a pretty big difference. Even better, the strategy has performed very well in four bear markets (2000-2002, 2008/09, 2018, and Covid-19 in March 2020).
What happens if we change the buy criteria to 5, ie, that the two-day RSI must be lower than 5?
The average gain increases, but the total return goes down due to lower time spent in the market.
But the strategy can be improved. Let’s add another indicator:
RSI(2) works better with the second indicator:
By adding a second indicator, but still requiring the RSI(2) to be below 10 (not below 5) we get this equity curve (logarithmic chart):
When we added the second indicator, we got the following stats:
The CAGR is 12.75% (buy and hold is 6.4%), the time spent in the market is 14%, there are 196 trades, 75% winners, the average winner is 2.5%, the average loser is 2.18%, the profit factor is 3.15, max drawdown is 19.5%, and the Sharpe Ratio is 2.85. All in all, we would say these are pretty good numbers.
If you want to have the code for the strategy producing the three last equity charts (including Amibroker/Tradestation code plus “plain English”), you can order it for 75 USD via this link (RSI + Second Indicator (Strategy no. 4):
When you have paid, please press the link below to access the code (PDF file):
You can subscribe to our Trading Edges where we send out ideas like this monthly for a lower fee per edge. The edge above will be presented as an edge sometime in the future. If you’d like to receive similar ideas, please subscribe to our Trading Edges:
Alternatively, you can have a look at our quantified free strategies:
Disclosure: We are not financial advisors. Please do your own due diligence and investment research or consult a financial professional. All articles are our opinions – they are not suggestions to buy or sell any securities.