Stock Trading Patterns Put to the Test

A popular setup I see a lot of chat about is the Inside Day, and, at times, the Inside Week. An inside day (week) is where the range of a day (week) sits within the range of the prior day (week), specifically it will have a lower high and a higher low. The following chart shows plenty of examples:

Theory behind the Inside Day (Week) is that it’s a short term trading pattern that involves a brief coiling of volatility that then gets released and a swift move one way or other takes place. So let’s put it to the test.

If an Inside Day occurs, we’ll buy the next day if the high is breached, or sell if the low is breached. To check the significance of the move we’ll exit on the close of the entry day. Here is the equity, measured in points gained/lost, in the $SPX since 1990:

The equity growth appears quite flat between 2000 and 2007 but then really takes off. The win rate is 57% on 872 trades with the W/L ratio of 1.41. A few things to consider; we’re not using any filters here so we’ll take short trades in an uptrend and long trades in a downtrend and we’ve not included any commissions or position sizing.

Let’s see how far this volatility coiling extends. It seems reasonable on the day of the breakout, but what follow through is there? The next equity growth chart holds the position overnight and exits on the next days close.

Here the win rate drops to 50% and the win/loss ratio falls to 1.3. Even though there is a very slight edge the pattern spends quite a number of years in a drawdown. Potentially a filter may offer a better outcome.

We’ve only tested this pattern on a single market. To ensure its robustness we’d need to look at it on a larger sample of symbols. If you would like to follow along with some fully tested strategies then take a look at our free 2-week trial. Remember it is about finding a strategy that is right for you, that suits your personality. See if The Chartist’s strategies are right for you.