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The Daily Range Day Trading Strategy

The Daily Range Day Trading Strategy captures a large chunk of the average daily movement in a stock or currency pair. It is recommended for use with volatile stocks, although the method can be applied to nearly any actively traded stock or forex pair. The Consistent High Volatility Stock Screener article reveals how to run a scan for volatile stocks, and the StockFetcher results will show you the average intraday range of the stocks found. That’s the stat we need: how much a stock typically moves between its daily highs and lows. This day trading strategy can be used on its own or in combination with other indicators or strategies.

Use a 1-minute or tick chart for this strategy.

If you are a forex day trader, use the Forex Daily Stats page to get all sorts of daily stats on the forex pairs of your choice. You can also find a list good day trading stocks on the Day Trading Stock Picks page, which is updated weekly.

With this strategy, I watch for a volatile stock to make a swing high or low in the first 15 mins of the day. Often a swing high or low made early in the day is important, and the high or low made in that initial 15 minutes gives us a baseline for the rest of the day. We then watch to see which level (either the high or low made in the first 15 minutes or so) is potentially going to be the high or low for the rest of the day. We do this by watching for a lower high or higher low in the stock as trading progresses.

For example, assume the price initially declines. The first few minutes see the price drop, then there is brief rebound, but then the price keeps falling. The price rebounds again, but this doesn’t make a new low. It then moves above the swing high of the rebound and back above the open.

Once a pattern like this occurs, we can make an assumption that the low (or high) is in place for the day. That doesn’t mean we will right all the time, and we don’t have to be. As we will learn later on, our gains with this strategy are typically bigger than our losses, so even winning 50% or even 40% of our trades can result in a profit.

We are also armed with our statistic which tells us what the average daily range (high – low) is. Once we’ve established a low (or high) is likely in place, we take a position with a profit target that attempts to capture the rest of the daily range.

Here is a simplified example. A $10 stock has a 10% daily range. Each day this % range is converted into dollars based on the opening price, so today the price range is expected to be $1.00 (10% of the $10 open price). In the morning the stock drops to $9.75. Bounces up $9.90 then falls back to $9.80 and then moves higher again. We assume the low is now in place at $9.75. We buy, and place a target at the far end of the average daily move.

The average move is $1, or 10% of $10. We’ve already moved $0.25 (the open at $10 down to $9.75, which we assume is the low) so our target is around $10.75. Since our low is already in place we must assume all action will now be above the low and on the upside. In this case, our profit target is our assumed low plus the daily average range: $9.75 + $1.00 = $10.75. We will talk about fine-tuning targets, to make them more accurate, a little later on.

The open price is important. For this reason, a move back through the open price can be used as an entry point. In the example above the stock made a low at $9.75, then bounced, and then fell back again to $9.80. Once the stock moves back up through the open price (in this case $10) enter a buy (or long) position. A stop loss can be placed below the most recent low.

Trade signals should occur before 10:30 AM EST. If you don’t have a signal by then, you may have missed it, or the market is so dull that you don’t want to be trading this strategy anyway. Usually, trades will occur before 10 AM EST.

Another potential entry technique for this strategy is the Truncated Price Swing. That entry method may provide a better entry point and therefore a higher reward to risk ratio (discussed later) than waiting for the price to move back through the open. Also read Trend Trading: How to Spot Trading Opportunities for more ideas on how to enter trades.

Daily Range Day Trading Strategy Example

Over the prior 30 days before this trade was taken, BBG averaged 7.11% intraday price moves. 7.11% of the $10.90 open price is $0.77. That is how far we can reasonably expect the price to move after the open on a typical day.

On May 5 it opened at $10.90. The stock moves higher, then drops, and then moves higher again. It reaches the same high as before. Before going short, I’d prefer a lower high, but a double top is okay as well. Since the price showed it can’t currently move higher, and has started to drop again through the open or pullback low, look to go short. A stop loss order is placed above the recent high, as represented by the red horizontal line near the upper left corner of the chart below.

daily range day trading strategy
Click to enlarge.

With a short entry point having triggered, we now assume the high of the day is in place, in this case at $11.02. If entering as the price moves below the open price at $10.89, our maximum risk is $0.13…plus a couple cent buffer, so $0.15. An alternate entry is just below the initial pullback low, in this case $10.83. Risk increases to $0.21, if placing the stop loss above the recent high. In some cases, there may be another swing high we can use if going short, or another swing low if going long, that provides us with an alternative stop loss location.

Subtract $0.77 from the $11.02 high to get a target price of $10.25. With our $10.89 entry point, our profit potential is $0.64, while only risking $0.15. Reward-to-risk ratios of 3:1 or higher are not uncommon with this strategy. In fact, if the reward-to-risk is much less than 3:1, don’t take the trade. Too much of the daily range has been eaten up (before the trade takes place) which leaves less room for it to move in our favor based on the stock’s usual tendencies. If the price is somewhat compressed in the morning, like a coiled spring, it’s possible to get some very big reward-to-risk ratios.

When trading with a reward-to-risk ratio of 3:1, 4:1, or more, even if winning only 30% of the time the strategy will be profitable.

In order for the trade signal to occur, we need to see at least three waves. The initial wave, a pullback, a move back to the prior high/low. Once this occurs we can begin looking for entry signals. While these initial waves are occurring, and when the price starts heading toward a possible entry point, there is time to quickly measure how far the price has already moved, and determine where the stop loss and target will go. This will also reveal the reward:risk, letting us know if the trade should even be taken.

If a signal occurs in the opposite direction, exit immediately and trade the new signal (or stick with your original trade, up to you). This occurred on May 4, the day prior. Our daily range is 7.1%. The price opens at $10.86 then rallies to $11. When it pulls back, it creates a higher low and then moves through the open price again (and also a consolidation breakout), triggering a long position.

That long position fails soon after, as the price creates a lower higher and then moves back to the daily open. Exit at the open (or when the price makes a lower low), and initiate a short trade one cent below the open. The first trade is a wash (down a cent or two). The second trade has a risk of about $0.15, and an expected profit of about $0.62 (4:1).

We now assume the high of the day is in place at $11. Subtract the daily range ($0.77) from this to get a target of $10.23. The price moves down toward the target but doesn’t reach it. How you handle this situation is up to you. You can use another method or your analysis skills to concoct an exit, or you can just exit at the end of the day. Targets can also be fine-tuned, discussed in a moment, so this situation occurs less often.daily range strategy BBG

If you are an active trader, this method provides you with an idea of how far the price may run, but you may opt to take multiple trades along the way instead of just one.

I use multiple entry and analysis methods. This article provides a sampling of how we can use relative highs/lows and various entry methods to come up with trades. You can also come up with your own entry methods. Regardless of the entry method, or even if you don’t use this strategy, knowing how far the price typically moves in a day is still very useful information.

Daily Range Day Trading Strategy Fine-Tuning Targets

In the trade examples above, the daily range was added/subtracted to the assumed low or high. In this way, we are not only assuming a high or low is in place, but we are also assuming that the price movement today will be at least equal to the average. If the price moves less than the average, our target will not be hit. If the price moves more than average our target will be reached and we could have potentially extracted more profit.

My primary concern is getting out with a profit. I am not concerned with trying to squeeze every penny of profit out of a trade. Therefore, a simple way to produce more winning trades, and more targets hit, is to reduce the daily range we use. By reducing the daily range, this will move our profit target closer to our entry, increasing the chance it will get hit.

By moving the target closer, the short trade in the example above may have hit the target. We risked $0.15, so even using a $0.50 target, instead of $0.62, gives us a more than 3:1 reward to risk. $0.50 subtracted from the entry price of $10.85 gives a target of $10.36…and you would be out of the trade with a profit (went as low as $10.31). Whether you do this is a personal choice. By reducing the target you reduce the size of the winners, yet slightly improve the odds your target is reached. You will need to find a balance that works for you.

A more advanced option is to study the trajectory of volatility. This will help us assess whether we should use the daily range as it is, or if volatility is likely to be higher or lower than average today. On StockFetcher, you can see the history of daily volatility. Is it recently rising, dropping, or stable? Was there a one or two-day volatility spike which has abnormally skewed the average?

These simple questions can often help us determine whether we should use a smaller or larger target than the average daily range. If the daily range is expanding constantly, then you can feel comfortable using the daily range for your target, or even assuming the daily range will be bigger today and thus a larger target can be used. If there was a volatility spike a week ago, and volatility has been steadily declining since, the average is probably not that accurate, and volatility is likely to be lower today in alignment with the recent “more normal” days.

Averages will change slightly each day. This isn’t usually a huge deal, but pay attention to recent price action when using averages. A 30-day average may say a stock is moving 6% daily, but you can see from looking at the chart that the average is dropping. It used to be 8% and the last few days have only moved 3 or 4%. Averages lag real changes, so stay on top of it, and if it looks like the average you are using is no longer accurate, then avoid using this method on that stock. Don’t force a method just because you want to trade it. Only use the method if you are using a daily range average that seems solid for the current conditions.

There is no perfect solution or magic formula. This is why we only take trades with a favorable reward:risk. The more the strategy is practiced, the better each trader will get at fine-tuning their targets…and entry and stop loss techniques.

The example below shows a trade in ROKU. The average daily range on Feb. 5 was 6.51% and the opening price was $39.97. That equates to an expected move of $2.60 after the open. For a more conservative estimate, we could assume that the price will move at least $2.10 (about 20% less than average), and place a target accordingly. Alternatively, we could simply use a reward:risk ratio fo 3:1, assuming the resulting target does not require the price to move more than $2.60.

Initially, the price moves up a bit but then drops. This is why we wait for at least three waves to unfold before taking a position. There is a brief rebound then a smaller drop. The price fails to make a lower low, and then breaks a consolidation to the upside and moves above the prior swing high and breaks back above the open. The move above the open or the prior swing high could be used as an entry, as both signaled the price could be heading higher and that the stock had put in its morning low.

daily range strategy example ROKU

A long trade is taken at $39.97/98, and a stop loss goes below the recent low at $39.50. A stop loss could also be placed below the slightly higher low, at $39.60. Let’s use the $39.98 entry and $39.50 stop loss. The risk is $0.48. If we place a target at 3:1, our target goes at 3 X $0.48 + 39.98 = $41.42. To reach our target the price will have only had to move $1.92…well below our conservative estimate of $2.10 and our average of $2.60.

The target is one potential exit method. Another exit method is the trailing stop loss. This is when the stop loss moves to lock in profit as the price moves favorably. Trailing stop losses are discussed in Consistent Ways to Take Profits.

Daily Range Day Trading Strategy Considerations

There are subjective elements to this strategy and multiple ways to trade it. This is the basic idea, but you need to more precisely define how you will trade it.

We are using an average of the daily range, which means any given day could be very different from the average. Some days will move more than the average, and other days will move less. A few very volatile days, which aren’t typical, can skew the average, making you think it is bigger than it actually is. Utilize the tactics in the Fine-Tuning Targets section to aid in target placement.

It is possible this strategy could be used to make one big trade a day. If used more for informational purposes, once the initial trade signal occurs, mark the expected daily range on your chart and take multiple trades within that area.

Your stock selection process for this strategy—and how that stock aligns with the average daily range statistic you use—is just as important as how the strategy is implemented.

Being able to actually implement this strategy will take a lot of practice. These trades occur in fast market conditions, and you always have to be ready for what you will do next.

Make sure the stock can handle the position size you’re trading by viewing a Level II. We need to get in and out quickly, so trade stocks that typically have liquidity at each level to allow for this. Slippage will occur on some trades.

Keep risk on any single trade to 1% or less of the trading account balance.

Daily Range Day Trading Strategy – Final Word

This method has multiple applications, not just the basic strategy discussed here. It seems easy, but practice it first, implementing your own personal guidelines for how you will trade it. You are making a lot of calculations on the fly, and in those initial minutes when the price is moving like crazy it’s easy to make a mistake, or get turned around and forget what you are looking for. I prefer trading this strategy with volatile stocks. Practice in a demo account before trading with real capital.

A daily range average doesn’t tell you how much a stock will actually move today. Some days the stock will move less, and some days it will move more than the average. The average is only a guideline for establishing areas where the price, on average, is likely to move to.

By Cory Mitchell, CMT

 

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