Home > Creativity, Markets > Profitable ETF Trading Strategies: Appreciating Anchors

Profitable ETF Trading Strategies: Appreciating Anchors

The Nobel prize winning work of Kahneman and Tversky featured an extensive examination of the biases we routinely committ which drive our thinking away from the purely rational economic man theorized by  traditional economics.

One of the more important biases they examined was the phenomenon of anchoring. We anchor when we place a  higher value or attach more meaning to a price than is warranted by facts. We see that for prices which act differently near round numbers which seem to have an almost magnetic effect.  Price action near round numbers is different than that of normal price, and with no better explanation than the effect of psychology.

Among the anchors that I pay attention to are the 52 week high and low, the 30 day high and low, and the 10 day high and low.  Each of these price ranges can be thought of in terms of a trading range. By using a technical indicator like Williams %R or by indexing the  range on a scale of 0-100, we can easily identify ranges where price can be considered overbought and oversold. It is in these ranges that anchoring seems to have an effect and which allow us to frame trades that have favorable reward:risk ratios.

The academic literature finds this anchoring effect with the 52 week high and low, but I haven’t found any scholarly papers on the 10 day range. The 30 day time period has been studied, but more from a momentum perspective than for potential anchoring bias. It actually has an inverse predictive quality (30 day strength predicts underperformance for the next 30 days)

I find that by simply using the 52 week range and the 10 day range and looking for the anchoring effect at extreme overbought and oversold I get plenty of short term trading opportunities for trades that last 1-3 days and which produce a respectable system quality number (as defined by Dr Van Tharp)

Review the Williams %R indicator or use Excel to establish an index range of 1-100 for the time period you are examining to get an edge in your trading.

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