Tag: Volatility

Standard Deviation Ratio (SDR)

The Standard Deviation Ratio (SDR) was first presented as a technical indicator in the March 1992 edition of Technical Analysis of Stocks & Commodities magazine ‘Adapting Moving Averages To Market Volatility‘.  The author Tushar S. Chande, Ph.D. used it as the Volatility Index in the original version of his Volatility Index Dynamic Average (VIDYA) or Variable Moving Average (VMA).

Calculating it is as simple as taking the ratio of a Standard Deviation (SD) over one period to that of a longer period where both have the same starting point.  One quirk of the SDR is that because the short term SD can become greater than the longer term SD, the ratio has no upper limit but does tend to remain below 1 most of the time (see the example chart below).  The higher the ratio, the more spread the recent data is from the mean in relation to the past which should indicate a stronger trend.

It is very helpful to know the strength or lack of a trend as different approaches will be more profitable depending on the market type.  But is the Standard Deviation Ratio an effective way to reveal the strength of a trend?  To find out we are entering it in the Technical Indicator Fight for Supremacy.  We will be testing the SDR as a component in the VIDYA, an Adaptive Moving Average and an Indicator Weighted Moving Average.

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50 / 100 Standard Deviation Ratio Example

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Standard Deviation Ratio

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Standard Deviation Ratio Excel File

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I have put together an Excel Spreadsheet containing the Standard Deviation Ratio and made it available for FREE download.  While the SDR may be very easy to calculate this spreadsheet will automatically adjust to the parameters you specify.  Find it at the following link near the bottom of the page under Downloads – Technical Indicators: Standard Deviation Ratio (SDR)

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Test Results

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As part of the ‘Technical Indicator Fight for Supremacy‘ We have tested/will test the Efficiency Ratio as a component in several technical indicators:

  • Standard Deviation Ratio Variable Moving Average (SDR-VMA) – Completed – Results
  • Standard Deviation Ratio Adaptive Moving Average (SDR-AMA) – Completed – Results
  • Standard Deviation Ratio Log Normal Adaptive Moving Average (SDR-LAMA)
  • Standard Deviation Ratio Weighted Moving Average (SDR-WMA)

We will also test the SDR as a filter, only taking trades when it indicates a strong trend.

Kaufman’s Efficiency Ratio (ER)

The Efficiency Ratio (ER) was first presented by Perry Kaufman in his 1995 book ‘Smarter Trading‘.  It is calculated by dividing the price change over a period by the absolute sum of the price movements that occurred to achieve that change.  The resulting ratio ranges between 0 and 1 with higher values representing a more efficient or trending market.

The ER is actually very similar to the Chande Momentum Oscillator (CMO) presented by Tushar S. Chande in ‘The New Technical Trader‘ (1994).  The difference is that the CMO takes into account for market direction but if you take the absolute CMO and divide by 100 you you get the Efficiency Ratio.

A measure of a trends strength can be very useful as some strategies work best on a trending market and some in a range bound market.  Likewise different moving average lengths will perform better depending on the market type at that time.

Kaufman originally intended the Efficiency Ratio for use in his Adaptive Moving Average (KAMA).  But in addition to the KAMA, as part of the Technical Indicator Fight for Supremacy we will be testing it as a component in a Variable Moving Average and an Indicator Weighted Moving Average.

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How To Calculate the Efficiency Ratio

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ER = Direction / Volatility

Where:

Direction = ABS (Close – Close[n])

Volatility = n ∑ (ABS(Close – Close[1]))

n = The efficiency ratio period.

Here is an example of a 3 period ER:

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Efficiency Ratio Formula

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Efficiency Ratio Excel File

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I have put together an Excel Spreadsheet containing the Kaufman’s Efficiency Ratio and made it available for FREE download.  It contains a ‘basic’ version displaying the example above and a ‘fancy’ one that will automatically adjust to the length you specify.  Find it at the following link near the bottom of the page under Downloads – Technical Indicators: Efficiency Ratio (ER).

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Test Results

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As part of the ‘Technical Indicator Fight for Supremacy‘ We have tested/will test the Efficiency Ratio as a component in several technical indicators:

  • Efficiency Ratio Variable Moving Average (ER-VMA) – Completed – Results
  • Efficiency Ratio Adaptive Moving Average (ER-AMA) – Completed – Results
  • Efficiency Ratio Log Normal Adaptive Moving Average (ER-LAMA)
  • Efficiency Ratio Weighted Moving Average (ER-WMA)

We will also test the ER as a filter, only taking trades when it indicates a strong trend.

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Efficiency Ratio Example

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Efficiency Ratio Example