How predictive of a reversal is a day where there is a strong reversal (a “hammer” on a candlestick chart, or a “kangaroo tail” in the parlance of Alexander Elder; I like the latter terminology, because it’s funny)? There have been two recently, so I wondered.
I have looked at this question for the S&P 500, and played around a little. There may be an edge here — there are not many instances, but the effect seems to endure.
- A kangaroo tail is formed when both the open and close are in the top (or bottom) third of the bar, and the low (or high) for the day is a new 60-day low (or high).
- True range must be above average.
- Trade with the long-term trend (200-day moving average is moving in the direction of the trade) and against the short-term trend (10-day moving average is moving in the opposite direction to the trade).
- Stop at the extreme of the kangaroo tail.
- Profit target at 4x the stop distance (because eyeballing the chart suggests these things predict major reversals). This requires a long-term success rate over 20% for the system to be profitable.