This content introduces a mean reversion trading system for stocks that has historically achieved significant returns with lower drawdowns than the S&P 500, emphasizing its high win rate and specific trading rules.
Mind Map
Click to expand
Click to explore the full interactive mind map • Zoom, pan, and navigate
Hey, hey. What's up, my friend? So, in
today's video, you will learn a mean
reversion trading system that has
generated 2,834%
over the last 25 years. So, to put
things into perspective, that's about a
14% annual return with a maximum draw
down of 27%.
And by the way, the S&P 500, if you buy
and hold it for the last 25 years,
you're looking at about 8 to 10% returns
a year with a maximum draw down of 55 or
even 60%. So you can see that this
system has a higher return and lower
risk compared to a buy and hold approach
on the S&P 500. And the best part is
that this trading system has close to a
70% winning rate. So it's going to be
easier on your trading psychology
because out of 100 trades that you put
on about 70 close to 70 is going to be a
winner. So if you're interested then
today's training is for you because I'll
explain to you what is mean reversion
trading the exact trading rules of this
system. The entry the exit the risk
management and much more sounds good
then let's get to it. So what is mean
reversion trading? So I want to make
sure that we are all on the same page
over here. So mean reversion trading is
when stock price deviate from their
average price because when they do they
usually revert back to the mean. I'll
show you shortly, right? What this looks
like on the chart and as a mean
reversion trader, you look to profit
from this snapback. So imagine this.
Imagine there's a rubber band, an
invisible rubber band in my hands. When
I pull that rubber band and I let it go,
what happens? The rubber band
snaps back. So, it's the same thing for
stock trading. So, as a mean reversion
trader, what you're trying to do is
this. You're identifying, in fact, let
me just move on to the concept first.
You're looking to identify stocks that
are in an uptrend, something like this.
And then you wait for a pullback and you
buy on the pullback. You're not waiting
for confirmation reversal pattern or
whatsoever. As a mean reversion trader,
mean reversion stock trader, you are
trying to catch the falling knife. Okay,
you buy on a pullback, buy when the
market looks bearish and when the market
makes a bounce, okay, you sell thereby
capturing this bounce, this quick profit
over here. So this is the goal of a mean
reversion trader, someone trading in the
stock market. And of course, this
concepts that I've shared with you, the
idea it is not enough, right, to develop
into a trading system because a trading
system must have a fixed set of rules.
When exactly do you buy, when do you
sell, how much to buy and sell and stuff
like that. And this is where we move on into
into
the trading system itself. So earlier
the min reversion the concept is more of
a highle strategy. So now we're moving
into the system with exact trading
groups. So we're going to be trading
stocks in the Russell 1000 index pretty
much the largest 1000 stocks in US. So
you can easily enter your trades and
exit them with minimal slippages. Time
frame is a daily time frame. And risk
management 20% of your capital for each
stock and a maximum of five positions. I
want to explain this one a little bit
because I think many traders watching
this might be thinking, "Man, Rene, what
does it mean?" Let me explain. So,
imagine you have $10,000 trading
capital. What this means is that you can
hold a maximum of five stocks
and each stock you will buy $2,000 worth
of stocks. So, 2,00 2,000 2,000 2,000
2,000
2,000. Okay? And if you buy five stocks,
you will realize that all your capital
will be used up. So there's no leverage
involved. So let's say for example,
stock, let's call it stock A. There's a
valid trading setup and you want to buy.
How much stock A do you want to buy?
Well, you buy $2,000 worth of stock A
because that's the maximum amount of
dollar value you can assign to one
stock. Make sense? Now, let's have a
look at the trading rules of this
system. So number one, the stock is
above the 200 day moving average. So
this is the criteria to define
an uptrend. It's kind of like, you know,
you want to make love to your wife. You
want to pop the question, you want to
hint to her when she's in a good mood.
Same for stock trading. When you want to
buy stocks, especially if you want to
make money on the long side, you want to
make sure that the overall market, the
overall stock is in an uptrend. So the
way we do it is that the stock must be
above the 200 day moving average. Next
one, second rule. And by the way, some
of you are, you like to ask me, Raina,
should I use the simple moving average,
the weighter, the exponential?
My answer is this. It doesn't matter. It
doesn't matter whether you're going with
the SMA, the EMA, the WMA, the MMA,
whatever, because the concept is what
matters. If you think about this, the
difference between the 200 SMA, EMA,
whatever MA, the value is going to be
very minimal. Okay, maybe one could be
let's say a value of 200 for the SMA.
Then the EMA the value could be 200.5 or
201. It doesn't really going to change
much. So really the concept is what
matters. And I would be worried or you
should be worried if someone tells you
that it makes a big difference because
if it does makes a big difference it
clearly the trading rules are
overoptimized and the strategy the
system will likely not work in the real
world of trading. So whether you go with
200 day simple moving average or
whatsoever it is not important. What's
important is the concept behind it which
is pretty much one thing to define
stocks that are in an uptrend. There are
many ways to go about it and in this
case I just simply use the 200 day
simple moving average.
Next one the stock closes below the
lower ballinger band. So this is the way
to define the pullback and again it's
not the only way you can use RSI
stoastic or whatsoever. But in this
example for this system I use the binger band.
band.
When that happens, you then place a 3%
buy limit order
for the stock. So this is to help us
define stocks that are oversold. And the
3% buy limit order is based on the
previous day closing price. Okay, just
to be clear over here. So number four,
if your order is filled,
you sell when the 2-day RSI crosses
above 50 or after 10 trading days. So
this is the criteria to exit your trade.
So most of the time you will exit when
the 2-day RSI crosses above 50. I would
say 80 to 90% of the time you will exit
through this mechanism. But there are
times right when you capture a falling
knife and a stock price just goes down
day after day like diary and it doesn't
even even make a bounce. So this is
where we want to have a timebased stop
loss to cut our loss after 10 trading
days. a maximum of 10 trading days and
this criteria will be used if this
doesn't happen. So there are times right
where stock price just diary you still
have to hold that stock for 10 trading
days and then sell it right if the 2-day
RSI has not crossed above 50 within the
10 days. And finally if there are too
many stocks to choose from select the
ones that have increased the most in
price over the last 150 days. So because
you're trading stocks in the Russell
1000, there's a thousand stocks that
that that you can trade. So sometimes
there are many opportunities lined up
for you. What happens is that you'll be
spoiled for choice like a buffet. Oh,
which one do I pick? So this is where
the ranking system comes into play. You
want to select stocks that has increased
the most in price over the last 150 days
because these are stocks that
are the strongest. That's why they went
up the most in price over the last 150
days. And these are the stocks that are
likely to continue higher. So that's our
ranking system. And finally,
the Ballinger bands. We tweak the
settings a little bit. We use 2.5
standard deviation instead of the
regular two standard deviation for most
uh charting platforms. When you insert
Ballinger band, it's usually 20-day
moving average and two standard
deviation. For this one, we go with 2.5
standard deviation. So in this in this
case right we are looking for the stock
to be or rather to define it to be more
oversold in that aspect. Now let's have
a look at an example so you can see how
this trading rules look like and also
how to add the indicators and adjust it
on your trading view platform. So I'm
using the replay mode. Let me just see.
Okay, looks better now. So, first thing
first, we need to make sure that the
stock price is above the 200 day moving
average. So, you look for SMA. Just
click on this. I'm just going to change
this to 200
style. I like it black because that's
how I define my 200 day moving average.
So, we can see the stock price is above
the 200 day moving average. Our first
criteria is met. In fact, if you need a
refresher because you have a memory of a
goldfish like me, number one, the stock
price is above the 200 day moving
average. Number two, the stock closes
below the lower Ballinger band. So, next
thing we need is the Ballinger band. So,
look for Ballinger band. And if you
recall the Ballinger bands that we use,
we tweak the settings slightly. We go
with 2.5 standard deviation. So, you can
see over here original settings was two.
So, I'm changing changing it to 2.5.
Okay. And then you re you would remember
that it has to be close below the lower
Ballinger band. So over here you can see
over here the stock price did close
below the lower Ballinger band. So what
we need to do now is to place a 3% buy
limit order to see if we get filled on
the trade. So what we need to do is to
find out what is the closing price on
this for this candle here and then just
multiply it by 0.97. So I went to get my
calculator. So you can see the closing
price is 27.71.
You're going to multiply by 0.97
and you get 27.71
multiply by.97 26.87.
26.87.
Okay. And what I'm going to do is just
going to illustrate on the chart where
is 26.87. I'll use this green line over
here. Boom. Oh, it's red. Let me just
change this to green to signal our
entry. And according is 26.87.
Okay. So what's going to happen is that
if the next day the stock price falls to
this green line, we would have gotten
filled on the trade because we are
placing a buy limit order with your
brokerage account. So you can see over
here, boom, next day the market
gap down lower and obviously we're going
to get filled depending on what price
you might get filled at a lower price
compared to the limit order that you've
gotten filled as well. So anyway, you
will you will be filled on this trade.
So now next thing to remember is what's
the exit? Exit is when the two-day RSI
crosses above 50 of the 10 trading days.
So the next indicator that you will need
is clearly the RSI indicator
relative strength index. I'm just going
to change the settings so you can see
how I do it. The length is two period.
We don't need the moving average one. So
just going to remove this and click
okay. So at this point you can see that
the RSI value it's actually 0.95. We're
looking for it to be above 50. So let's
see if it goes up higher or not.
Still below right right now it's 15
13. Boom. 71. You can see. So now the 2D
RSI is above 50. This is where we're
going to exit this position possibly for
for a loss.
So now as you can imagine this right the
RSI value is only confirmed
this is only confirmed when the market
close. So of course you can't exit your
trades when the markets are closed.
Well, you can trade after market hours,
but usually you get very poor feels. So
what we're going to do is we only exit
this trade then at the next day when the
market opens. Boom. So it opens over here
here
right at this price point. In fact, if
you want, I can just use this tool over
Okay. And this is our exit. So we can
see over here we bought at this green
one and we sell at this red level. And
clearly this is going to be a losing
trade. But the purpose of this chart is
not to show you winners or let you
think, oh man, this is the holy grail.
You're going to win all the time. No,
it's just to kind of like show you how
the trading setup works, where we enter,
where we sell, and whatnot. And of
course, one trade doesn't mean a thing
because it could just it's just random
luck, right, in the short term. So this
is why when you have a set of rules when
you have a fixed trading system you can
run a back test on it and see how this
system has performed over the last you
know in this case 20 over years. Let's
have a look. Okay so you can see over
here this is the equity curve of this
trading system over the last 25 years up
about 20 2834% over the last 25 years.
Breaking, breaking this down further,
you can see the month- on-mon year
results. Like in 2000, January is up
12%. For the year is up 97%. 2024, the
system made 29%. We have a few losing
years like here, here, here, here. So,
four losing years over the last 25
years. Not too shabby. And for the
detailed breakdown, you can see over here
here
2,834% since 2000. So annual return is
about 14% a year. 66% winning rate, 33%
losing rate. Payoff ratio, this is
important. So let me explain. So how we
define payoff ratio is that we take our
average profit divide by our average
loss. And we you will realize that for
this system your payoff ratio is less
than one. So what this means is that on
average your losses are larger than your
winners. And you might be thinking so if
that's the case then how are we still
how is this system still profitable?
Well, the reason why this system still
makes money in the long run, despite
having the average size of their losses
being bigger than the winners, is
because of this, your relatively high
winning rate. You're winning about 66%
of the time. So, you can see that you're winning
winning
twice as often compared to losing,
right? You you lose 33% of the time and
you win 66% of the time. And maximum
draw down is 27%. So, what does this
mean? So, let me explain. This is again
very important, especially when you're
trading strategy systems or whatsoever.
You want to know what's the maximum draw
down of the system that you are
potentially trading. So let's say if you
have $100,000 trading capital and let's
say over the last 10 years the worst
your capital went down to was let's say
$50,000 and then eventually went back up
higher to let's say $200,000. So from
100,000 down to 50,000 we call this a
50% draw down. That's the maximum draw
down that you have experienced trading
this let's say this system right over
the last x number of years. So from the
peak to the tri we want to measure how
deep is that decline in terms of
percentages. So the deepest the maximum
decline we call that the maximum draw
down and for this system is 27%. And to
put things in perspective if you buy and
hold the S&P 500 let's say from 2000 to
right now today I believe your maximum
draw down for the S&P 500 is 55 or 60%
thereabouts. So this is to kind of kind
kind of like give you an idea of what's
the maximum draw down for a buy and hold
investor in the stock markets.
And moving on the pros and cons let's
talk about the pros and cons of mean
reversion trading because no trading
system is is perfect. So I just want to
let you know what are some of the
advantages and disadvantages that you
will experience. Number one, you have a
relatively high winning rate, right?
Mean reversion trading systems. I
generally see it, you know, above 60%
winning rate. Some even as close as 70%
is doable as well. This type of trading
strategy you usually do well when the
stock market is ranging or in a choppy
bullish market because if you imagine
this, if the market is bearish, you are
not going to get too many stocks to
trade because most of them are going to
be below the 200 day moving average in a
downtrend. So, you won't have too many
trading opportunities. At the same time,
if the market is very bullish going
parabolic, you also won't have too many
opportunities because there isn't a
pullback that you can buy into because
remember this trading systems, you buy
on a pullback. So, if the market is very
strong going parabolic, again, this
system is likely to underperform. So,
usually it does well in a choppy or
bullish but still choppy bullish market,
this system tends to do well. The
downside is you get the less than one
to1 risk-reward ratio because you've
seen earlier the average loss is
slightly bigger than your average
profit. And finally, you would tend to
give back profits in a bare market or
rather I would phrase it, you would tend
to not do so well in a bar in a bare
market. And give back profits in a bare
market meaning that sometimes you could
buy the stocks and then the market goes
into a sudden fear, right? It drops like
10%, 20% like for example the recent
tariffs, right? So a number of your
positions right are going to get hit
when such a sudden decline in the stock
market happens. So you tend to give back
profits or you'll see your account go
into a draw down during this period. And
of course it doesn't go down forever
because if you recall we have a trend
filter for the stocks. The stocks must
must be above the 200 day moving
average. So if the overall stock is in a
bare market going down 20 30 40% by then
you're probably in cash already. And for
systems like this you'll remain in cash
till things reverse and then you start
going back long to look for
opportunities again. Now, before you go,
I'd like you to get access to this free
training. You can get it at tradingwithra.com/go
tradingwithra.com/go
or in the description or in the comment
section below this video. So, in this
training, you will discover three
rule-based trading strategies that work
and they're all backed by data. In fact,
the strategy that you've just learned is
actually taken from this training. So,
you will learn, in other words, two more
extra trading strategies. And again,
I'll walk you through the
trading rules, the entries, the exits,
the risk management and chart examples
so you can quickly understand the
concepts of these strategies. And that's
not all because I would also like to
give you the PDF slides of this
training, the trading strategies cheat
sheets so you can quickly recap the
rules of this different trading system
and the back test report of all these
different trading systems. So you can
see the winning rate, the losing rate,
what is the payoff ratio, etc. all the
back test report given to you in this
training for free. So everything is free
over here. Just go down to tradingwithra.com/go
tradingwithra.com/go
or I'll put the link somewhere in the
description below or in the comment
section below. Just click on it. You'll
come to this page and you can get
started immediately. So with that said,
I wish you good luck, good trading. I
Click on any text or timestamp to jump to that moment in the video
Share:
Most transcripts ready in under 5 seconds
One-Click Copy125+ LanguagesSearch ContentJump to Timestamps
Paste YouTube URL
Enter any YouTube video link to get the full transcript
Transcript Extraction Form
Most transcripts ready in under 5 seconds
Get Our Chrome Extension
Get transcripts instantly without leaving YouTube. Install our Chrome extension for one-click access to any video's transcript directly on the watch page.
