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Glossary · Indicators

Mean reversion

The tendency of a price to move back towards an average after stretching away from it — and the trading approach built on that idea.

By Sky Trade editorial teamUpdated

Mean reversion is the idea that extreme moves tend to be followed by moves back towards some average: a moving average, the middle of a range or a notion of fair value. Strategies based on it buy after unusual drops and sell after unusual rises, often using oscillators such as CCI, RSI or Bollinger Bands to define “unusual”.

The approach suits ranges, where price really does oscillate around a centre. It struggles in trends, where the mean itself keeps moving away and each “extreme” becomes the new normal. Selling a rally because it “must come back” during a strong trend is one of the classic ways traders lose money.

Some caveats:

  • The mean you choose shapes the result; different averages give different extremes.
  • Reversion can take longer than your expiry. Price may well come back eventually — after your trade has closed.
  • Not everything mean-reverts. A random walk has no centre to return to.

That last point matters on Sky Trade's OTC instruments: their prices come from a random-walk model, so there is no built-in pull back towards an average. On market pairs reversion is a tendency, not a rule. See CCI explained and range.

Example

EUR/GBP oscillates around 0.8550 all morning. When it spikes to 0.8568, outside the upper Bollinger Band, a mean-reversion trader opens Lower; price returns to 0.8556 within 10 minutes — this time.

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