Larry Connor’s 2-period RSI Strategy

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The 2-Period RSI Trading Strategy is a short-term trading method popularized by Larry Connors that I find both simple and effective.

Larry Connors is a renowned figure in trading, known for his expertise in short-term, quantitative strategies focused on mean reversion.

He founded TradingMarkets.com and Connors Research, developing rule-based, data-driven systems that emphasize simplicity and statistical validation.

Connors has authored influential books like “Short-Term Trading Strategies That Work” and “Street Smarts”, popularizing strategies like the 2-period RSI.

His work has had a lasting impact on traders, emphasizing systematic, emotionless approaches to achieve consistent results.

This strategy focuses on identifying extreme short-term oversold or overbought conditions using the Relative Strength Index (RSI) indicator with a very short lookback period of 2 days.

This strategy capitalizes on mean reversion, assuming that prices tend to revert to the mean after extreme movements.

How It Works:

You can implement this strategy easily using the TradingView platform.

  1. RSI with 2-Period: Set the RSI to a very short lookback period of 2.
  2. Mean Reversion Focus: Identify conditions where the market is extremely oversold or overbought based on the RSI value.

Key Rules of the Strategy:

  • Buy Setup (Long Entry):
    • RSI(2) < 10: This indicates an extremely oversold condition, suggesting a potential bounce.
    • The stock or ETF must be in an uptrend based on a higher timeframe indicator, such as above the 200-day simple moving average (SMA).
    • Entry: Buy the stock when RSI(2) drops below 10.
    • Exit: Sell the position when RSI(2) rises above 70.
  • Sell Setup (Short Entry):
    • RSI(2) > 90: This indicates an extremely overbought condition, suggesting a potential pullback.
    • The stock or ETF must be in a downtrend based on a higher timeframe indicator, such as below the 200-day SMA.
    • Entry: Short the stock when RSI(2) rises above 90.
    • Exit: Cover the position when RSI(2) drops below 30.

Larry Connors’ Adaptation:

Larry Connors emphasizes the context in which the RSI(2) is applied. His specific contributions include:

  1. Trend Context: He ensures that the strategy aligns with the broader trend (e.g., buying pullbacks in an uptrend, not a downtrend). Using the 200-day SMA as a trend filter helps avoid false signals.
  2. ETFs and Highly Liquid Stocks: Connors often applies the strategy to ETFs and highly liquid stocks to reduce slippage and ensure reliable execution.
  3. Focus on Simplicity: Connors designed this strategy for quick and straightforward decision-making. It’s ideal for traders who want systematic, rule-based entries and exits.

Advantages of the Strategy:

  • Simplicity: Easy to understand and implement.
  • High Win Rate: By buying during extreme short-term oversold conditions, traders often achieve a higher probability of success.
  • Quick Turnaround: Positions are held for a short period, making it suitable for active traders.

Limitations:

  • Market Conditions: Works best in mean-reverting markets and may not perform well in strong trending markets without adjustments.
  • Small Moves: Profits per trade can be small, requiring high-frequency trading or scaling up to make significant gains.
  • Discipline Required: Strict adherence to rules is crucial, as deviating can lead to losses.

This strategy is especially appealing for short-term traders seeking a rules-based approach to capitalize on temporary extremes in the market.