Subscribe to RSS feeds Bulkowski Blog via RSS

Thomas Bulkowski’s successful investment activities allowed him to retire at age 36. He is an internationally known author and trader with 30+ years of stock market experience and widely regarded as a leading expert on chart patterns. He may be reached at

Support this site! Clicking the links (below) takes you to Amazon.com. If you buy ANYTHING, they pay for the referral.

Picture of Bumper.
Kindle
Paperback
Nook
Picture of the head's law.
Kindle
Paperback
Nook
Chart Patterns: After the Buy
Getting Started in Chart Patterns, Second Edition book.
Trading Basics: Evolution of a Trader book.
Fundamental Analysis and Position Trading: Evolution of a Trader book.
Swing and Day Trading: Evolution of a Trader book.
Visual Guide to Chart Patterns book.
Encyclopedia of Chart Patterns 2nd Edition book.

Bulkowski's Relative Strength

Class Elliott Wave Fundamentals Psychology Quiz Research Setups Software Tutorials More...
Busted
Patterns
Candles Chart
Patterns
Event
Patterns
Small Patterns
Market
Industrials (^DJI):
Transports (^DJT):
Utilities (^DJU):
Nasdaq (^IXIC):
S&P500 (^GSPC):
As of 10/20/2017
23,329 165.59 0.7%
9,972 85.59 0.9%
749 1.35 0.2%
6,629 23.98 0.4%
2,575 13.11 0.5%
YTD
18.0%
10.3%
13.6%
23.1%
15.0%
Tom's Targets    Overview: 10/16/2017
23,700 or 22,700 by 11/01/2017
10,300 or 9,700 by 11/01/2017
775 or 725 by 11/01/2017
6,700 or 6,500 by 11/01/2017
2,625 or 2,525 by 11/01/2017

Written by and copyright © 2005-2017 by Thomas N. Bulkowski. All rights reserved. Disclaimer: You alone are responsible for your investment decisions. See Privacy/Disclaimer for more information.

This article discusses a different kind of relative strength, that of comparing the performance of a stock versus the Standard and Poor's 500 index. Knowing the right combination (rising or falling) when trading chart patterns can boost profits while lowering risk of failure.

Relative Strength Summary

  • Select stocks with upward breakouts and falling relative strength before the chart pattern begins but rising on exit from the chart pattern.
  • A reversal in relative strength from rising to falling, or falling to rising, leads to the largest average decline after a downward chart pattern breakout.
  • After an upward breakout from a chart pattern, rising relative strength means good gains. Falling relative strength is bad news.
  • For downward breakouts, falling relative strength means larger losses.
  • The direction of relative strength is random after a breakout compared to before the chart pattern.

Relative Strength Background and Methodology

There are several types of relative strength. First, there's Wilder's relative strength index (RSI), which is a popular indicator. Then, there are studies I conducted on relative strength of industries, where I compare the price performance of several industries to one another, and stocks, whereby a trader or investor selects the strongest performing stocks to buy.

This study compares the performance of a stock with the Standard & Poor's 500 index.

Picture of relative strength.

The above chart shows an example of how I conducted the study. A symmetrical triangle appears outlined in red, bounded on the top and bottom by two converging trendlines.

The relative strength line compares the daily closing price with that of the S&P 500's closing price, and it appears on the chart as a jagged blue line cleverly labeled "Relative Strength Line."

Since this line is irregular, I applied a 22-trading day (about a calendar month) simple moving average to smooth it. That line appears in red as a smoothed version of the more jagged relative strength line.

For the study, I looked at the slope of this line at three locations: the day before the start of the chart pattern, the day before the breakout, and a month after the breakout. In this chart, the relative strength line is falling going into the chart pattern and rises when price breaks out of the chart pattern. It keeps rising a month later. As the chart shows, price rises from about 23 to 33 (43%) in about 4 months.

I used 1,094 stocks with data stretching back as far as July 1991 and found 15,763 chart patterns. Not all stocks covered the entire period.

Top

Relative Strength Results: Upward Breakouts

For stocks with upward breakouts, the following table shows the results based on the slope of the relative strength line.

Before Chart
Pattern
Before
Breakout
Percentage
Gain
Failures
RisingRising32%19%
RisingFalling29%22%
FallingFalling33%17%
FallingRising34%16%

The table shows that when a 22-trading day relative strength moving average line is rising the day before the chart pattern starts and continues rising the day before the breakout, price climbs an average of 32% after the breakout. The rise is measured from the close the day before the breakout to the ultimate high, which is the highest high before price drops by at least 20% (a trend change). Failures are 19%, meaning 19% of those chart patterns failed to rise at least 10% after the breakout. The 10% benchmark is an arbitrary setting, but it is high enough for a trader to cover costs and make a small profit, assuming a timely sale.

The results show that the combination of falling relative strength leading into the chart pattern followed by rising relative strength on exit from the chart pattern gives the best average percentage rise after the breakout (34%). Failures, at 16%, are also the lowest in the table.

The worst performing combination is a rising relative strength line going into the chart pattern followed by it falling on the way out. That combination gives an average rise of 29% with the highest failure rate: 22%.

Top

Relative Strength Results: Downward Breakouts

The following table shows the results for downward breakouts from chart patterns. The percentage loss column measures from the close the day before the breakout to the ultimate low, which is the lowest low before price stages a 20% gain (a trend change). Failures occur when price drops less than 10%.

Before Chart
Pattern
Before
Breakout
Percentage
Loss
Failures
RisingRising19%28%
RisingFalling21%28%
FallingFalling18%29%
FallingRising21%28%

If the stock is falling faster than the market (falling "before chart pattern" and falling "before breakout"), I would expect a larger decline, and yet the table shows an 18% drop occurs with a slightly higher failure rate (29%) under those conditions. In other words, the results don't make intuitive sense.

For the best performance after a downward breakout, look for a reversal in relative strength, either from rising to falling (21% loss) or falling to rising (21% loss) as measured on the day before the chart pattern begins and the day before the breakout, respectively.

Top

Relative Strength Results: Post Breakout Relative Strength

As a final test, I looked at the post breakout relative strength results. This compares the gain (upward breakouts) or loss (downward breakouts) when relative strength is rising and falling. The results are what I expected, but the percentage difference between the numbers surprised me.

Relative
Strength
Breakout
Direction
Gain
or Loss
RisingUp41%
FallingUp22%
RisingDown13%
FallingDown25%

The table shows that if relative strength is rising in a stock compared against the S&P 500 index after an upward breakout, the stock soars an average of 41%. This compares to a rise of just 22% if relative strength is dropping.

For downward breakouts, when relative strength is rising, meaning the stock is maintain its current price better than the general market, the stock drops just 13% compared to an average loss of 25% if the stock is weaker than the market.

Finally, don't expect relative strength to continue in the same direction after the breakout as it was before. If relative strength is rising leading to a chart pattern, there is a 49% chance that it will continue rising after the breakout. That's random.

-- Thomas Bulkowski

Top 

See Also

Written by and copyright © 2005-2017 by Thomas N. Bulkowski. All rights reserved. Disclaimer: You alone are responsible for your investment decisions. See Privacy/Disclaimer for more information. For every action, there is an equal and opposite government program.