Pullback Trading Strategies: Setup and Backtest Analysis

A pullback trading strategy is a trading strategy that involves buying a stock after it has experienced a recent decline in price. The rationale behind this strategy is that the stock is likely to rebound from its recent decline and return to its previous price level or even higher.

Pullback Trading Strategy. We have previously discussed and written why the 200-day moving average works: because you play defense if a severe recession hits. But can you combine a long-term defensive trend-following strategy using the 200-day moving average with a long-term pullback trading strategy?

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Pullback Trading Strategies

In this article, we backtest a combination of long-term trend-following and short-term pullback strategies to create a long-term pullback trading strategy that incorporates breakout pullbacks and retracement techniques for stocks.

The 200-day moving average

First, we recommend reading two other articles we have written about trend lines and averages, including the 200-day moving average. These articles will provide insight into pullback trading strategies and breakout pullbacks.

The 200-day moving average, along with pullback trading strategies and trend lines, works well in the stock market because it allows for breakout pullback opportunities and helps you identify major bear markets early on. The downside is that you may underperform during periods where there are no significant averages or pullbacks to follow.

The stocks market has a long-term uptrend and you can still manage decent returns with significantly less drawdowns if you use pullback strategies with the 200-day moving average as a trend filter. Pullbacks are common in stocks, but by using this trend filter, you can minimize losses and maximize gains.

Enter on pullbacks in the direction of the trend

The 200-day moving average defines the long-term trend and we only want to go long if the trend is positive. But because the S&P 500 has shown strong tendencies of mean reversion since the mid-80s, we go long at short-term pullbacks if the long-term trend is positive. Thus the name pullback trading strategy.

Thus, we make the following strategy (in plain English):

The close must be above the 200-day moving average.
The close must be below the 20-day moving average.
The five-day RSI must be below 45.
If 1-3 are true, then enter at the close.
Exit at the close when the five-day RSI ends above 65.

Alternatively, you can apply pullback strategies and enter the forex trading market at the next day’s open with a slightly lower total return, taking advantage of potential pullbacks.

How have these simple trading strategies performed since the inception of SPY (The ETF that tracks the S&P 500) stock price?

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