What is Cesar Alvarez’s IBS filter?

Internal Bar Strength is (close − low) ÷ (high − low) × 100. In his test, keeping only mean-reversion trades with IBS under 10 raised the average profit per trade by 58% while keeping 34% of trades.

Cesar Alvarez

Quantitative trader and co-author of “Short Term Trading Strategies That Work”; writes Alvarez Quant Trading

AA — the trader’s own published text (rule document, own site) was read.

Short-term mean reversion in stocks with trend filters. A blog post with a complete base mean-reversion strategy, the filters he tests on it and the results he reports. The base rule differs from the well-known “RSI(2) below 10” version.

A published rule is a hypothesis, not evidence of profit. We do not know how often these rules won, and traders who publish their methods are the ones who survived.

Sources

Internal Bar Strength for Mean Reversion (Alvarez Quant Trading), 16 Feb 2022 — own site, 2022

Rules

Filter

FilterUniverse: stocks that are members of the S&P 500. Trend filter: the close is above its 200-day moving average. Market filter: the 126-day return of the S&P 500 is above zero.
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FilterInternal Bar Strength IBS = (close − low) ÷ (high − low) × 100, so a close at the low is zero. The idea: a low IBS suggests the next day closes higher.
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FilterReported in an all-trades test: keeping only trades with IBS under 10 (34% of trades) raised the average profit per trade by 58%; IBS under 25 kept 63% of trades with a 21% increase. Winners fell from 71% to 57% as IBS rose from 0 to 100.
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Entry

EntryEntry: the 2-period RSI crosses below 2.5; buy on the next open.
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Exit

ExitExit: the 2-period RSI closes above 50; sell on the next open.
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Discipline

DisciplineHe concludes that IBS alone did not work as a stand-alone mean-reversion signal: it only looks at one-day mean reversion. The test takes all signals; it is not a portfolio test.
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Not confirmed

Often attributed to this trader, but not found in the sources above. Not listed as his or her rules.

The widely cited “buy when RSI(2) is below 10 above the 200-day average, sell above the 5-day average” is attributed to his book, but the post read here uses a 2.5 threshold and a 50 exit; the book’s own text was not read.

Limits of these rules

The post does not state the test period (a promo on the page says “from 2003”), costs or a stop; mean reversion with no stop can produce large single losses. Percent changes in average profit are relative to a base case whose absolute size is not given.

Other traders

Rules are our paraphrase of the sources; only short quotes are verbatim. This is information, not advice or a promise of profit.