Trading strategy: MAD Rebound

Description

The MAD Rebound strategy is a day trading and scalping strategy which is based on three unique components: the MAD Filter, the MAD Signal and the MAD Exit. MAD is short for “Moving Average with a Distance”. A signal is given when the market price deviates strongly from the average price. When this happens a rebound is likely. The MAD Rebound strategy trades these quick rebounds, using small profit targets.

The interesting MAD Exit replaces a traditional stop. The MAD Exit avoids the trader being stopped out too early and can also reduce the size of the loss.

Unique is the fact that the MAD Rebound strategy appears to trade at its best when the market is moving up and down in a range. Range strategies are rare and useful! The strategy is less useful when the market is moving strongly in one direction. Also avoid early morning trades when price gaps can skew the average values.

The strategy in detail

The MAD Rebound strategy is traded in a 5-minute time frame.

The first component of the MAD Rebound strategy is the MAD Filter. The MAD Filter colours the background of the chart green if buy signals are acceptable and red if short sell signals are acceptable.

This example shows the MAD Filter. The green background indicates buy signals are acceptable. The red background indicates short sell signals are acceptable. When the chart background is white, no signals will be accepted.

The second component is the MAD Signal. The MAD Signal is the blue line and corresponding bands. The third strategy component is the MAD Exit. The MAD Exit partially manages the open position. It consists of a red line and corresponding grey bands.

This example shows the MAD Signal line and its bands (blue) and the MAD Exit line and its bands (red).

When to open a position?

A long position is bought when the chart background is green and when the market price closes a precise number of ticks below the average market price.

A short sell position is sold when the chart background is red and when the market price closes a precise number of ticks above the average market price.

See below for a table containing the precise number of ticks for the major markets.

This example shows two buy signals on the DAX future. The MAD Filter colours the chart background green and the market closes 15 ticks below the average market price (blue MAD Signal line). A position is bought at the open of the next candle.

This example shows two short sell signals on the DAX future. The MAD Filter colours the chart background red and the market closes 15 ticks above the average market price (blue MAD Signal line). A short sell position is sold at the open of the next candle.

When to close a position?

The MAD Rebound strategy uses a profit target and a stop. The profit target is small. The stop is far removed from the market price and serves as a safety net. The stop is not often triggered.

This example shows a short sell position which was closed by the stop.

A small profit target is, per definition, frequently reached. A trading strategy with a very high proportion of winning trades is encouraging and mentally bearable for many traders. The risk of such a strategy is that once in a while the profit target is not reached and one loss may wipe out a good portion of the profits built up over time. This is where the unique MAD Exit comes.

The philosophy of a traditional stop loss and the MAD Exit is very different. A stop loss closes the position when a maximum acceptable loss occurs. The MAD Exit is more subtle. It is based on the principle that when a market moves against the trader, it will, in most cases, not do so in a straight line but by going up and down. The MAD Exit will close the position when the market temporarily moves back in the right direction. This may allow the trader to reduce the loss.

The absence of a traditional stop loss close to the entry price can also give the position the possibility to lose some ground before reaching the target.

The MAD Exit is the red line with the grey bands. When the market closes a precise number of ticks above (below) the red line the position is closed. See below for a table containing the precise number of ticks for the major markets.

This example shows two buy signals on the DAX future. In both cases the profit target (green line) is reached. The second trade is the most typical, with the profit target being reached in the same candle.

This example shows a short sell signal. Typically the small profit target is reached quickly. The accumulation of many small profitable trades is typical for the MAD rebound strategy.

This example shows the MAD Exit at work. A buy signal occurred. The market went down and the profit target was not reached. A traditional stop would have closed the position when the market was going down. The MAD Exit, however, closed the position later; when the market was moving up again and closed 10 ticks above the red MAD Exit line. This reduced the size of the loss.

A second advantage of using the MAD Exit instead of a traditional stop loss is that the absence of a stop gives the position time to be weak but to ultimately still reach the profit target.

This example shows a long position after a buy signal. The position takes over an hour to reach the profit target. If the trader would have used a traditional stop the position would have been closed in the beginning when the market was going down.

Finally, the MAD Rebound strategy also contains a time filter. If the TradeGuard is activated, the time filter will close the position automatically at 21h45.

Adapting the strategy to the instrument you trade.

The MAD Rebound strategy is set by default for trading the DAX future. To trade other markets change the parameters as indicated in the table below. The quickest and easiest way to change the parameters is to click them in the chart and change them by typing or using the mouse wheel.

Click these parameters in the chart in order to change them.

This table show the parameters for the main markets. The market can evolve over time. Before using the settings always subject them to a reality check. The "period" parameter is always 5 for the MAD Exit, 10 for the MAD Signal and 25 for the MAD Filter; so the parameter for the MAD components in this table is the "distance".

Tip: Euro FX is the EUR/USD future. Futures are also suitable for forex trading. The size of the micro EUR/USD future, for example, is only $ 12.500.

Conclusion

De MAD Rebound strategy trades small rebounds. When the market drops or climbs sharply in a short space of time, often a rebound (reverse movement) will occur. Typical for a strategy with small profit targets, the percentage of winning trades is high. Mentally this suits many traders. To avoid a big loss wiping out whole or part of the profits built up over time, the strategy partially relies on the unique MAD Exit. Attention should also be paid to the slippage as it can reduce the size of an already small potential profit.

Interestingly the MAD Rebound trading strategy is at its best when the market is moving more or less sideways in a range. A trading strategy which performs well in a range is very rare. For this reason traders should do the effort to familiarize themselves with the MAD Rebound strategy.

This example shows the DAX in a range of only 40 points (0,3%). The strategy opens four positions. All positions are closed with a 5-point profit.

This example shows the DAX in a range of only 30 points (0,28%). The strategy opens four positions. All positions are closed with a 5-point profit.

Given that the strategy is not efficient in strong movements, it is advisable to add a block filter (ignores signals during a defined period) covering points in time when market movements are usually stronger. For example, in the case of market indices this would be 1 1/2 to 2 hours after the open. A block filter on the DAX could look like this 07.59 -10.29.

Testing as also shown that it is advisable to run the strategy in parallel on two or three instruments, combining forex pairs and indices. The strategy is very suitable for automated trading.

Practical implementation

Using the NanoTrader Full follow these steps:

• Select the instrument you wish to trade.
• Open the chart of the instrument.
• Select "WHS MAD Rebound" in the WHS Strategies folder.
• Set the parameters as specified above.
• If you want to trade semi-automatically, activate TradeGuard+AutoOrder. If you want to trade automatically, activate AutoOrder.