Range bound trading strategy

Range-Bound Trading.

What is 'Range-Bound Trading'

Range-bound trading is a trading strategy that identifies stocks trading in channels. By finding major support and resistance levels with technical analysis, a trend trader buys stocks at the lower level of support (bottom of the channel) and sells them near resistance (top of the channel).

BREAKING DOWN 'Range-Bound Trading'

The trader may repeat the process of buying at support and selling at resistance many times until the stock breaks out of the channel. The upper boundary of the channel is shown by a trendline that connects the points representing a stock's highs over a given time period. The lower boundary of the channel is identified by connecting the points representing a stock's lows. The downside of this strategy is that when a stock breaks out of the channel, it usually experiences a large price movement in the direction of the breakout. If the breakout direction is not favorable for the trader's position, he or she could lose badly.

Range trading.

Trading.

Range trading is strategy whereby a trader identifies overbought and oversold areas (or support and resistance areas) and buys at the oversold area (support) and sells at the overbought area (resistance). The strategy works well in markets that are meandering up and down with no discernable long-term trend. The strategy is less effective in a trending market, but can be used if one accounts for the market’s directional bias.

Reversion to the Mean.

If you think of price behavior as a distribution, a price is either moving toward or away from its average price over time. The most popular way to determine a market’s average price is through its moving average calculation. A five-day moving average shows the market’s average price for the past 5 days, a 20 day moving average shows the average for the past 20 days, and so on. When you connect each day’s moving average values, you create a moving average line.

When price moves substantially above or below its moving average, there’s a good chance (all things being equal) the price will return at least in part toward its average price. The idea of range trading is to capitalize on this tendency of prices to revert to the mean.

Support and Resistance.

Identifying and measuring the strength of support and resistance is essential to interpreting price charts and successful trading. Support is the price level where buying is strong enough to interrupt or reverse a downtrend. Support is represented on a chart by a horizontal or near-horizontal line connecting several bottoms. Resistance is a price level where selling is strong enough to interrupt or reverse an uptrend. Resistance is represented on chart by horizontal or near-horizontal line connecting several tops.

Generally speaking, the strength of support and resistance zones is determined by its length, height, and trading volume that has taken place at the level. Very simply, the longer the area has held, the greater the depth of the zone on a chart, and the higher the trading volume when the area has been tested previously, the stronger the support/resistance area.

Trading Set Ups.

The goal of a range trade is to find a point at which price has stretched too far above or beneath the average price and must snap back like a rubber band and/or to find a point where resistance or support has formed and is likely to hold again.

It is important to underscore that markets vacillate between trending or range expansion periods and non-trending, or range contraction periods. Thus, the first task of the trader is to determine whether the market is in a trend or not in the time frame he or she is interested in trading. If the determination is no trend exists in the trader’s time frame, then the odds increase that a range trading type of strategy will succeed.

In a pure range-bound market, a trader can place a buy order close to the market’s established support level or at an oversold point when the price has moved well under the market’s moving average. A protective sell stop can be placed just below the support area or at a point well below the entry price of the trade. A profit sell order can be placed around the market’s established resistance level or at a point close to the market’s moving average.

Every trade will not be a winner. To succeed over the long-term, it’s important that traders enter trades where the profit targets are significantly greater than the stop loss points. So in addition to stop losses, traders should have a explicit idea of where to take profits and the profit target point should be at least 2 to 3 times greater than the stop loss point from where the trade was entered.

This strategy can be adapted for a trending market. In an uptrend, a trader should look for a retracement to buy close to support or when the price falls below its moving average, as discussed above. However, given that the market is in an established trend, the trader is justified in establishing a higher profit target than he or she would in a range bound market. For example, rather than selling when price returns to the moving average the trader might wait for the price to rise above the moving average before taking a profit.

The risk in range trading strategies stems from the market’s tendency to alternate between range expansion and range contraction. Eventually, price will break out of its boundaries, either on the upside or downside, and a trader banking on the trading range continuing will lose money. That’s why it’s important to stop loss orders or some other risk management mechanism to limit losses when the market moves in an unexpected direction.

Related Lessons.

Momentum traders and investors look to take advantage of upward trends or downward trends in a stock or ETF’s price.

Swing trading refers to the practice of trying to profit from market swings of a minimum of one day and as long as several weeks.

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Detecting and Trading Range-bound Markets.

Submitted by Edward Revy on December 17, 2009 - 13:05.

Join in to discover new ideas, indicators and tools to gain additional control over range-bound trading.

The fact is, during well trending markets majority of Forex traders trade profitably and comfortably, but once a trend is over all kinds of problems arise: trend-following systems no longer work, frequency of false entry signals increases bringing additional losses which eat up earlier accumulated profits.

Taking into consideration that Forex market spends up to 50% time in non-trending, sideways state, the knowledge of how to deal with range-bound markets becomes vital.

What is the simplest thing we know about the range-bound market?

. Its beginning is difficult to spot. Quite often by the time we realize that the market is ranging we’ve already made few errors and paid for it.

There are various strategies that tell how to trade during range-bound markets, but there are few that teach how to spot range-bound markets on their earliest stages, so that we can actually have a choice: to trade or to avoid it.

Range-bound Forex trading (General guidelines)

#1: We’ll be discussing methods and ideas for detecting and trading during range-bound markets. These methods are not going to shield you completely from ever changing market weather, but will help you to anticipate and make “weather forecasts” with additional accuracy.

#2: We'll use the main rule: if the market is not trending, always treat it as a ranging market.

When using indicator signals, if an indicator no longer shows signs of a healthy trend, immediately treat it as a beginning of a range-bound market until further improvements.

#3: There are few systems that can trade really well during both: ranging and trending markets, more often it is either one or another. If your trading system keeps losing during ranging markets, you have 2 options: a. stop trading during range-bound markets; b. make an additional system to use during this period.

and my best Forex strategies Team.

Range-bound trading methods:

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#3 Range-bound trading (34 EMA + 5 EMA)

Submitted by Edward Revy on December 17, 2009 - 17:56.

Many systems start with words: "I’ve been observing charts for a while, and suddenly an idea popped up in my head". Same was with this one for me. I’ve been looking at charts, in particular at moving averages, and came up with a trading plan to foresee upcoming ranging markets.

This is the earliest detection of a ranging market known to me, and I’d like to share it with you today.

On any time frame we need two Moving averages: 34 EMA and 5 EMA.

After both moving averages have been trading apart for a while = the market was trending, start watching for the first candlestick to touch both moving averages (body + shadows, everything counts). Here is our first candidate on the screen shot below:

This is the first earliest sign that a sideways pattern might be forming. I used words "might be" because we don’t know what’s in for us ahead. But let's go step by step. Below is what you’ll be actually seeing in real time:

Our next step is to look behind that candlestick and identify the closest swing high and low. Both those swings should be outside the reference candle body length, including shadows. Reference candle is the one I’ve circled in blue.

Once we've found both swings, draw horizontal lines thought them as shown on the screen shot below:

That’s your anticipated range area ahead. As long as price stays inside that area, you can treat it as a range-bound move.

Let’s now have a look what were the actual results:

Price holds inside the predicted range! Pretty good forecast, isn’t it?

(By the way I left MACD on the charts just for the reference to the method I’ve described earlier in range-bound trading #2)

But that’s not all. We can go further and each time a new candle touches both Moving averages, we are free to reset our range boundaries to new highs and lows using the same old rules. Range boundaries can go up and down during each new re-set, it is fine.

You can now trade breakouts out of those ranges, or wait till there is a new trend to be traded.

When re-setting, keep the boundaries of the very first range for the reference, when price finally breaks that level – that’s a significant achievement, and a new chapter for a new trend.

thanks. great strategy.

Great series of articles on how to detect a ranging market! This has been an area where I have had a problem in my trading before. This should help!

The Cat Preacher.

Thanks for the valuable info. Does it work on 4 Hour and 1 Hour timeframes as well ? I am trying a strategy using 4H and 1H TFs as the main trend direction.

It works on all time frames without exception.

Happy and prosperous Holidays to you too!

Hope you and family have a very happy new year.

Thanks for sharing this trick to predict ranging market. Just have some questions:

1. What proper strategies you recommend in such condition?

2. How to determine when the ranging period ends and true breakout occurs ( by using RSI, MACD, bar close above/below MAs, etc. )?

I think if we are able to spot ranging market then we can take advantage of it.

Thank you, Keith.

While in the range, we use our defined range boundaries to enter and exit trades.

We can also use Bollinger bands, where we can confidently trade the bounce of the BB lines. There is a well known strategy by J. Ross, which can be downloaded at our forum: Gimme bar system by J. Ross.

Also we can add RSI on top, and take only those trades where RSI (3) has reached oversold/overbought levels. Since we know that the market is in the range (till it breaks out), RSI will allow to catch a momentum. Same trick can be done with Wiliams R% indicator or Stochastic.

A breakout is valid when it surpassed our range boundaries, namely a new candle not just pokes, but closes outside the boundaries. Then withing few next candles we expect a re-test of the breakout level, if it holds (=market closes outside the range again) then we can plan our trades with the trend.

This strategy can help visualising the idea of trading valid breakouts and avoiding whipsaws: Trading Breakouts of the Breakouts.

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