Stochastic Trading Strategies — (Backtest, Indicator, Settings, Rules, and example)
The stochastic indicator does work in a stochastic trading strategy. It performs quite well as a mean-reversion tool for stock indices.
Short-term oversold and overbought stochastic trading strategy:
A short-term lookback period of two to five days works best as long as the threshold is pretty low, like, for example, 25. Likewise, the smoothing period must be equally low.
We tested by using %K (2,2) with an exit when today’s close is higher than yesterday’s high. Using these criteria, we got the equity curve shown below.
It’s 497 trades from 1993 until March 2021, an average of 0.58% per trade, a profit factor of 2.33, and a maximum drawdown of 19.8%. Not bad. With short lookback periods, it works well.
You can find more info about this trading strategy here:
https://www.quantifiedstrategies.com/stochastic-trading-strategies/
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