How do you know if the mean-reversion is valid in the current market condition?

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How do you know if the mean-reversion is valid in the current market condition?

posted Feb 11, 2019

Finance Theory Mean Reversion

I have run this mean-reversion algorithm post in the forum.
Although it performs drastically well during the well-known market crashes e.g. ~2009 and ~late 2018, it does not otherwise perform very well, resulting in loss over the simulated period.

So I wonder, if there is an indicator to tell if the mean-reversion is applicable to the current market condition, and apply this idea only when I am convinced of the presence of such condition.

One thin I heard is the auto-regressive analysis, which I did not have time yet to explore in more depth. If anyone has tried similar idea, I wonder if my idea of catching the market dynamics from such an indicator or two is feasible or if such condition does not last for long enough period, too random, flawed by wrong assumptions, etc...

Thank you.

3 responses

btw the code is brought from this post: https://www.quantopian.com/posts/mean-reversion-short-money-in-bad-markets
not my implementation.

@HyungJun Lim,

There is a school of thought that market dynamics is broken down into three phases: trending, cycling and random. Trending is often times associated with momentum, cycling to mean reversion and random to random. If you can figure out how to accurately measure these phases, you would have found what is closest to financial trading holy grail is. Having said that and intuitively, measure of volatility may be one of the keys to accurately model the phases. Low volatility signals ensuing trends while high volatiltiy signals uncertainty and exploited by mean reversion. Hope this guidance helps you.

Joakim Arvidsson (Cream Mongoose)

Some use the Hurst Exponent to determine if a timeseries is trending or mean-reverting. There are several posts on it in the Q forums. Here's one.

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The material on this website is provided for informational purposes only and does not constitute an offer to sell, a solicitation to buy, or a recommendation or endorsement for any security or strategy, nor does it constitute an offer to provide investment advisory services by Quantopian.

In addition, the material offers no opinion with respect to the suitability of any security or specific investment. No information contained herein should be regarded as a suggestion to engage in or refrain from any investment-related course of action as none of Quantopian nor any of its affiliates is undertaking to provide investment advice, act as an adviser to any plan or entity subject to the Employee Retirement Income Security Act of 1974, as amended, individual retirement account or individual retirement annuity, or give advice in a fiduciary capacity with respect to the materials presented herein. If you are an individual retirement or other investor, contact your financial advisor or other fiduciary unrelated to Quantopian about whether any given investment idea, strategy, product or service described herein may be appropriate for your circumstances. All investments involve risk, including loss of principal. Quantopian makes no guarantees as to the accuracy or completeness of the views expressed in the website. The views are subject to change, and may have become unreliable for various reasons, including changes in market conditions or economic circumstances.