Schwager Volatility Ratio Amibroker AFL code and Analysis

What is Volatility ratio?

The Term Volatility ratio is coined by Jack D. Schwager to identify trading range and potential trend reversal. The values of the volatility ratio range from 0.01-1.00 and typically traders predicts the reversal points if the value shows above 0.5. However marketcalls recommend to look for reversal above 0.6.

 
Volatility ratio formula

Volatility Ratio (VR) = Today’s True Range/True Range over N number of days

To calculate the volatility ratio, the true range is calculated using the following formula:

Today’s True Range = MAX (today’s high, yesterday’s close) – MIN (today’s low, yesterday’s close)
and

True Range over N number of days= MAX (Day1 High, Day 2 High, …Day N High, Day 0 Close) minus MIN(Day1 Low, Day 2 Low, …Day N Low, Day 0 Close)

Volatility ratio – Amibroker AFL code

_SECTION_BEGIN("Volatility Ratio");
//{Volatility Ratio - Schwager}
//Coded By Rajandran R  - www.marketcalls.in
//Date - 18 Feb 2012

n=Param("Periods",13,1,300,1);
VRT=Param("VRthreshold",0.6,0.5,1,0.1);
Dday =Param("Decision Day Based on Prev day returns",4,3,5,1);
zero=10^-10;

r1=H-L;
r2=abs(H-Ref(C,-1));
r3=abs(Ref(C,-1)-L);


TrueRange=Max(Max(r1,r2),r3);

TrueHighPds=Max(HHV(H,n),Ref(C,-n));
TrueLowPds=Min(LLV(L,n),Ref(C,-n));
TrueRangePds=TrueHighPds-TrueLowPds;

VolatilityRatio=TrueRange/Max(TrueRangePds,zero);

SetPositionSize(1,spsShares);

decisionSell=HHV(C,5)-C;
decisionBuy=C-LLV(C,5);

Buy =decisionBuy>0 AND Cross(VolatilityRatio,VRT);
Sell =0;
Short=decisionSell>0 AND Cross(VolatilityRatio,VRT);
Cover=0;

Plot(VolatilityRatio,"Volatility Ratio - Schwager",colorRed);

_SECTION_END();

The above code has been derived from the following metastock code as shown below

{Volatility Ratio - Schwager}

n:=Input("Periods",1,253,14);
zero:=Power(10,-10);

r1:=H-L;
r2:=Abs(H-Ref(C,-1));
r3:=Abs(Ref(C,-1)-L);

TrueRange:=Max(Max(r1,r2),r3);

TrueHighPds:=Max(HHV(H,n),Ref(C,-n));
TrueLowPds:=Min(LLV(L,n),Ref(C,-n));
TrueRangePds:=TrueHighPds-TrueLowPds;

VolatilityRatio:=TrueRange/Max(TrueRangePds,zero);

{plot VR}
VolatilityRatio;

Builing a Trading System using Volatility Ratio

Now to understand the predictive nature of Volaitity Ratio in idenfitying price reversal we built a simple trading system

The concept is to Buy when Volatility ratio is greater than 0.6 and the past 5 days returns are negative and on the reverse short if the Volatility ratio is greater than 0.6 and the past 5 days returns are positive. And now exit after 10 days of holding the instrument.

We tested the trading system with our benchmark index Nifty on the Daily timeframe. Here is the results about the predictive nature of the indicator followed by snapshots of the signals when volatility ratio crosses 0.6 with period =13

Charts below the buy and sell indications for the past 5 years when the volatility ratio shoots above 0.6

Nifty Daily Chart – 2007

Nifty Daily Chart – 2008

Nifty Daily Chart – 2009

Nifty Daily Chart – 2010

Nifty Daily Chart – 2011

Nifty Daily Chart – 2012
No signals during the year 2012 and 2013

Hope the above article gives your more understanding about the nature of volatility ratio. Test the indicator and provide your feedback here. Your feedback is much are appreciated