Ranking Stocks and Markets by Trend/Mean-Reversion Tendencies
Most traders have a strong preference for trend or mean-reversion strategies but rarely both. Sometimes markets trend, sometimes they mean-revert. The periodicity of this behavior is also distinct whether you are looking at the short-term or long-term time frames. When markets change, if you only employ a specific style you will underperform–this is guaranteed. The are only two solutions: 1) is to diversify by strategy and time-frame 2) is to find the best markets that suit your style at a given point in time–if the broader market isn’t trending for example (and you are a trend trader), then find a stock, commodity or ETF that is trending well. The real question is how to identify such situations– do markets or stocks have long-term or short-term tendencies that can be extrapolated reliably? The answer is a resounding–YES! It is possible to identify markets that are best suited to mean-reversion or trend strategies. The Livermore Index is one good example of a methodology that identifies trending stocks, but also looks at relative performance. However, as we shall soon see, the method is applicable in both directions–to also identify mean-reverting stocks/markets.