Half-Life Mean Reversion

Entry Logic

• Long Entry: The price of an asset deviates from its mean by a significant amount. The entry is timed based on the calculated half-life of the mean reversion process.
• Short Entry: Same as above, but for deviations above the mean.
• Confirmation: The price begins to revert to the mean.
• Timeframe: Varies, depending on the half-life of the asset.
• Location: At a statistically significant deviation from the mean.
• Market Condition: Mean-reverting.

Exit Logic

• Profit Target: The mean of the process.
• Scaling Out: No.
• Trailing Stop: No.
• Signal Failure: Exit if the price does not revert within the expected timeframe (e.g., 2-3 half-lives).
• Opposite Signal: Not applicable.
• Time Expiration: Based on the half-life.
• Momentum Loss: Exit if the reversion stalls.

Stop Loss Structure

• Hard Stop: A pre-defined maximum deviation from the mean.
• Soft Stop: If the process shows signs of becoming a random walk.
• Max Dollar Loss: Varies.
• Max Percent Loss: 3%.
• Structural Stop: Not applicable.

Risk Management Framework

• Risk Per Trade: 1.5%.
• Daily Limit: Not applicable.
• Weekly Limit: 5%.
• Max Drawdown: 15%.
• R:R Requirement: 2:1.

Position Sizing Model

• Sizing Approach: Based on the volatility of the process.
• Volatility Adjustment: Yes.
• Conviction Sizing: No.
• Scaling In: No.
• Scaling Out: No.

Trade Filtering

• Market Conditions: Only on assets that have a statistically significant and stable half-life.
• Setups: Based on the Ornstein-Uhlenbeck process or similar mean-reverting models.
• Instruments: Pairs spreads, volatility, interest rates.
• Time Restrictions: None.
• Chop/News Avoidance: Yes.

Context Framework

• Trend Direction: Not applicable.
• VWAP Relationship: Not applicable.
• MA Relationship: Not applicable.
• Range Location: At an extreme of the asset's range.
• Higher TF Alignment: Not applicable.

Trade Management Rules

• Breakeven: No.
• Scale Out: No.
• Add Size: No.
• Fast vs Slow Moves: The speed of the reversion is determined by the half-life.

Time Rules

• Optimal Window: Any.
• Times to Avoid: None.
• Session Notes: A highly quantitative strategy.

Setup Classification

• A+ Setup: A fast half-life with a large deviation.
• A Setup: A moderate half-life with a moderate deviation.
• B Setup: A slow half-life.
• C Setup: No stable half-life.

Market Selection Criteria

• Instruments: Assets that pass a test for mean reversion (e.g., ADF test) and have a stable half-life.
• Volume: High.
• Volatility: Any.

Statistical Edge Metrics

• Win Rate: 60-70%.
• Avg Win: 2R.
• Avg Loss: 1R.
• Profit Factor: 2.1.
• Expectancy: +0.6R.

Failure Conditions

• Market Conditions: A change in the underlying process that causes the half-life to change or disappear.
• Specific Scenarios: A shift from a mean-reverting to a trending regime.

Psychological Rules

• Discipline: Requires a purely quantitative approach. No room for discretion.

Advanced Components

• Regime Detection: The half-life calculation itself is a form of regime detection.
• Filters: Only trade assets with a half-life that is short enough to be practical for trading.
• Correlation: Not applicable.
• MTF Alignment: Not applicable.

Location

• Strongest: In markets that are known to be mean-reverting, such as natural gas seasonality or interest rate spreads.
• Weakest: In markets that are prone to strong trends, such as technology stocks.