I am reading a book and the author claims that mean-reverting strategies are much better than momentum strategies. Do you think so and why?
It's all relative. It depends on the time frame you're trading. Example, on a 5 min chart something may be trending like mad, but on a weekly chart it may be mean reverting, or vise versa. Both can work and both can fail miserably. A good trader probably has ways of determining which to use and employing both and a bad trader likely won't make either strategy work for them.
In my personal experience I've found that my momentum strategy not only has a higher win rate, but the profits are booked about 3 times faster. The only time mean reversion seems to work as reliably and quickly as with-trend momentum is when there's a wide range. I occasionally take those sorts of trades, but they're not in my trading plan. My experience shared here is based on intraday trading. I'm curious to know how the author defines "better".
Really has to do Price Action, if price is not making higher or lower highs/lows which signify trend, the price is in chop. Some will argue with me, but I only see real trend being 30% in most instruments and 70% are in some degree of chop, so the author is right about reversion to the mean happening more than trend. But it stills comes down to making money and how you want to do that. Chop methods offer the least amount of profits and greatest amount of signals, although the risk is normally less than trending trades, but trend trades offer much more in terms of profits, more risk but less trades. Also, comes down to your personality, if you simple can't hold on to an instrument for a few years, swing trading is an option but it produces more trades. Less is talked about time available to trading, one's age, and patience. Trades are often like real estate, longer you can hold on till bubble is reached, more one can gain. It is just a matter of finding one's niche, then playing that one for all it is worth.
It is product and market condition specific. The broad brush stroke definition is not a good approach for anything trading related.
So use a method that incorporates both, such as: buy if price closed down 7 days in a row AND close > 100MA You buy on weakness within the context of an up trend. BTW, nothing special about the numbers 7 and 100, but you get the idea.
How timely. This thread was started today, and I just posted this mean reverting trade. http://www.elitetrader.com/vb/showthread.php?s=&postid=3851371#post3851371 I live and wait to trade these opportunities of widely stretched rubber bands that occur about 25 to 35% of my trades. The other trades also result in gains (easily over 80% and closer to 90% in frequency). I posted charts since Aug 1 on that thread Charts of Note, and they all were gainers, widely varying in their size of gain, and the 75% that are not multi-layered average I suspect what others would refer to as modest gains. Modest is made all the more humble considering a pair trade takes a hunk of capital, leaving less trades to be made due to limitation of capital. The obvious: there are many broad categories of ways to trade with sub-categories under them and then as many styles as a subset of that as their are numbers of traders. In the end, it's to me like a person finding a career and loving it in order to allow the passion of it motivate the study of it, develop the talent and discipline to drive the performance successfully. I'm older, conservative, adverse to being knocked around by market direction, and prefer not to be slaved to a monitor. High percentage of gains to numbers of trades with modest to very good results; sleeping well at night; and enjoying immensely the direct participation in the market from occasionally to frequently as the mood stirs me is my style. In the '90's, fast moving day trading was a phenomenal experience for learning, making money (eventually !), and suitable style for me. I'm in a different chapter of life now, and as happy with slower, high certainty pair trading MY STYLE as alluded to earlier when I referred to myriad of ones available under any category. A person at any age whining of low yields in his investments can take just a minimal amount of direct participation in the market with some of his investment capital and significantly, safely improve yearly results. And have fun at it, too. So I don't believe there are any absolutes (categories, styles within categories) that can be nailed universally to all traders as THE ANSWER. Find something you love, can be consistently successful at, and have fun improving ! Whatever justifiable limitations a trading category allows traders to argue about can be made left to the strictly academic when passionately good traders overcomes them.
I really like the idea of using both. Personally I like to wait and see what happens when price has regressed (does it trade through and regress again? Does it reverse violently? Does it start making trending highs and lows on larger volume? Etc.). My view is that price hits a speed bump put in by reversion traders and the following reaction can show which side the volume is really on. Once I get long or short based on the reaction I'll manage the trade as a trend/momentum play (systematic profit taking while staying exposed to unexpected profit). I'm curious to hear how others combine the two.
General statements like this are moronic. It depends entirely on the performance stats, which depend entirely on the market environment. The best strategy is the one that consistently delivers the best trade odds (win rate; risk/reward ratio).