Follow Through Day Trading Strategy (Backtest and Example)

What Does A Follow Through Day Mean In Trading?

As a stock trader, you may likely have asked this question several times: “How do you identify a stock rally?” That might have been the question that led William J. O’Neil to develop the concept of a follow-through day for identifying the onset of a rally after a downtrend or market correction. But what does a follow-through day mean in trading?

A follow-through day is a key concept in the market-timing system designed to help you identify a change in general market direction from a downtrend or market correction to a new rally. A follow-through day occurs during a market correction when a major index closes significantly higher than the previous day, and in greater volume. It happens on Day 4 or later of an attempted rally.We backtest follow-through days on the S&P 500 index.

What is a follow-through day?

Developed by MarketSmith founder, William J. O’Neil, who developed the CANSLIM method, the follow-through-day concept is a key concept in the market-timing system. It was designed to help investors and traders identify a change in general market direction from a downtrend or market correction to the next uptrend. A follow-through day occurs during a market correction when a major index closes significantly higher than the previous day while also having a greater volume.

A follow-through day only happens after the market hits bottom, and it confirms that a new market uptrend has begun. Leading up to the follow-through day during a downtrend, the market often makes several attempts to rally, with a major index closing with a gain. The rally attempt remains intact as long as the index doesn’t make a new low, and most times, the follow-through day happens on Day 4, or later, of an attempted rally.

To identify a follow-through day, here is what you do: When a market correction, or even a bear market, is in play, you should look out for any day on which one of the major equity indexes, such as the Dow Jones Industrial Average, the Nasdaq (QQQ), or the S&P 500, gains in price compared to the day before. That day with price gain counts as Day 1 of an attempted rally.

Over the next two days, that index must not fall below the low on Day 1 — as long as it stays above that level, the rally attempt is still alive. By Day 4, or later, of that rally attempt, a follow-through day will occur, and it is characterized by one or more of the major market indexes making a big gain in price and volume, which is higher than it was on the previous day. The occurrence of a follow-through day confirms a new market uptrend.

Ironically, when a follow-through day occurs in the stock market, indicating that a new uptrend is underway, many individual investors who should be aiming to make money from growth stocks tend to remain skeptical. The negative reaction is not surprising anyway, since a bullish follow-through signal comes after a period of bearish sentiment in the market.

Follow-through day – backtest, example, and analysis

Trading Rules

Based on the text further down in the article, we backtest a follow-through day / strategy like this: