How to Trade Pullbacks – Part 1

Matt Radtke is Senior Researcher for Connors Research. Mr. Radtke graduated magna cum laude from Michigan State University with a degree in computer science. He has 25 years of software development experience in companies large and small, including Hewlett-Packard and Bell Northern Research.

Mr. Radtke has been actively trading stocks, ETFs, and options since 2008. Over the past several years he has become increasingly involved with the Connors Group family of companies, first as a student, then as a member of Chairman’s Club, and finally as a consultant, researcher, and author.

Pullback trading is one of the most popular forms of trading amongst traders. You may also hear pullback strategies referred to as mean reversion strategies, swing trading, or trading reversals. The phrase “buying weakness and selling into strength” also appears frequently.

Click here to download your free copy of An Introduction to ConnorsRSI. Learn more about this brand-new trading oscillator and the fully disclosed pullback strategy included in the book.

The good news is that pullback trading can be very lucrative when it’s done correctly. The not-so-good news is that over the past two decades there has been a proliferation of published pullback strategies which have little or no edge at all. Many of these rely on the trader to visually identify chart patterns to determine entry and exit points. Others are only partially quantified, focusing on a single indicator value to identify entries and often leaving exits entirely to the trader’s discretion.

In this article series we will present a strategy which utilizes ConnorsRSI in combination with other indicators to identify when a pullback has occurred. Each of these indicators and their contribution to the strategy will be described in a later section. We will also teach you exactly when to exit your trades, leading to more predictable and consistent results.

Before we go on, let’s look at exactly what a pullback is and why it’s important.

What Is A Pullback?

A pullback occurs when a security whose price has been moving higher sells off, i.e. the price of the security drops. Most people trade pullbacks based on daily bars, although some traders seek out intraday pullbacks while others use longer time frames. The common theme is that traders are attempting to identify stocks that they feel have pulled back too far and will likely regain their upward trend. This movement back toward the longer-term trend is known as mean reversion.

There are numerous ways to identify pullbacks, ranging from simply “eye‐balling” a chart all the way up to using indicators such as Fibonacci numbers. Although these techniques work for some traders, we prefer a more precise, quantified approach. With exact entry and exit rules in place, we want to see robust test results for the majority of the many combinations of parameters that we’re testing, and for those results to be consistent across the entire testing period. Such solid results indicate that we are not simply curve fitting or cherry picking.

When trading short‐term pullbacks, the best results occur when you hold the position for at least a few days. Often stocks pull back sharply and snap back strongly. There is no way of knowing ahead of time how far that upward move will be, so it is crucial to have well-defined exit rules in place which allow for the rally to play out.

In Part 2, we’ll describe the ConnorsRSI indicator and its importance to the Pullback Strategy.

Click here to read How to Trade Pullbacks – Part 2

Click here to read How to Trade Pullbacks – Part 3

Click here to read How to Trade Pullbacks – Part 4

Click here to read How to Trade Pullbacks – Part 5