Investing & Trading

ER Trend Strategy

By Samantha Baltodano


TL;DR:

The ER Trend strategy is a trading strategy that uses the Efficiency Ratio (ER) indicator to identify trends in financial markets and generate buy and sell signals. 


The strategy applies a lower and higher threshold to interpret the values of the ER indicator. Common lower and higher threshold values are 0.5-0.6 and 0.8-0.9, respectively, and can be adjusted based on market conditions. 


When the ER values meet certain conditions and the close price crosses above or below its moving average, a buy-to-open or sell-to-open order is triggered. 


Exit orders are also used based on close price plot crossovers with the moving average. The multiplier value used in the strategy can vary based on the trader's preference and market analysis.


You can access this indicator on TradingView here.



What Is The ER Trend Strategy?

Efficiency Ratio Trend (ERTrend) strategy is a trading strategy that builds on the trend-following indicator called Efficiency Ratio (ER). 


This strategy is used to identify trends in the financial markets and to generate buy and sell signals based on those trends.


The Efficiency Ratio formula goes something like this:


  • Efficiency Ratio (ER) = Change in Price over a period / Total sum of changes in Price over the same period.


where:


  • Change in Price over a period = Closing price on the last day of the period minus the closing price on the first day of the period.
  • Total sum of changes in Price over the same period = the sum of the absolute value of the change in price on a bar-by-bar basis over the same period.



The ER Trend strategy takes the Efficiency Ratio and applies a lower threshold and a higher threshold to interpret the values of the Efficiency Ratio indicator.


The lower and higher threshold values used in the ER Trend strategy can vary depending on the trader's preference and the conditions of the market being traded. A common lower threshold value is usually set between 0.5 and 0.6, and higher threshold values are typically set between 0.8 and 0.9. 


These thresholds are what help this strategy interpret the strength of the trend and help traders determine potential entry and exit points. It's worth noting that the specific values used for the thresholds can be adjusted and optimized based on historical performance and ongoing market conditions.


So, how do these thresholds provide trade signals?


When the ER values are greater than both your lower threshold value and its own lowest value times a multiplier, it tells traders that a trend is starting to develop. 


When the ER values are greater than a higher threshold level but lower than the maximum level, it’s interpreted as strong trending conditions.


  • The multiplier value can vary based on the trader's preference and the specific market being analyzed. Typically, the multiplier value is set to 1, but it can be increased or decreased based on historical performance and ongoing market analysis.


If either of these conditions is true and the close price increases above its own moving average, a buy-to-open order is triggered. In the same conditions, a sell-to-open order is added if the close price falls below the average.


The ER Trend strategy also uses exit orders based on crossovers of the close price plot with its moving average. When the close price crosses below the average, a sell-to-close order is added. When it crosses above, the buy-to-close takes place.



Test The ER Trend Strategy

Great news! 


You can back test this exact strategy on historical data for any of your favorite symbols using TradingView. 


This strategy has already been built and all you have to do is log in and take it for a spin. You can access this indicator here.


If you’re new to back testing and to TradingView, don’t worry. I created a step-by-step guide you can follow to begin testing the ER Trend Strategy.



Summary

  • The Efficiency Ratio Trend (ERTrend) strategy is a trading strategy that uses the Efficiency Ratio (ER) indicator to identify trends in the financial markets and generate buy and sell signals based on those trends.
  • The Efficiency Ratio is calculated as the ratio of the change in price over a period to the total sum of changes in price recorded on a bar-by-bar basis over the same period.
  • The ER Trend strategy applies a lower threshold and a higher threshold to interpret the values of the Efficiency Ratio indicator, which helps traders determine potential entry and exit points. A common lower threshold value is usually set between 0.5 and 0.6, and higher threshold values are typically set between 0.8 and 0.9.
  • When the ER values are greater than both the lower threshold value and its own lowest value times a multiplier, it indicates that a trend is starting to develop. When the ER values are greater than a higher threshold level but lower than the maximum level, it’s interpreted as strong trending conditions.
  • If either of these conditions is true and the close price increases above its own moving average, a buy-to-open order is triggered. In the same conditions, a sell-to-open order is added if the close price falls below the average. The ER Trend strategy also uses exit orders based on crossovers of the close price plot with its moving average. When the close price crosses below the average, a sell-to-close order is added. When it crosses above, the buy-to-close takes place.


ER Trend is just one of many strategies that Archaide automates. For a full list of strategies and studies available click here.


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