Mean reversion bets that a price which has moved sharply away from its recent average will move back toward it. Buy the dip, sell the spike, on the assumption that the extreme was an overreaction.
It’s the opposite bet to momentum, and both can be right — in different regimes.
How it works
Define an average — a moving average, a Bollinger band, a z-score of recent returns. When price stretches far enough from it, position for a return. Exit when price reaches the average, or after a fixed time.
The parameters that matter are how far is “far enough” and how long to wait for reversion before conceding the move was real.
The return profile
High win rate, small wins, occasional large losses. Most extremes do revert, so most trades work. The ones that don’t are the beginning of trends, and a mean-reversion strategy is by construction positioned against every trend at its start.
That profile is comfortable until it isn’t. Months of steady gains, then a week that gives them back.
The regime it requires
Range-bound markets with stable volatility. In a trending market, mean reversion sells every breakout and buys every breakdown. In a volatility spike, “far from the mean” recalibrates upward and the strategy enters too early.
Knowing which regime you’re in is the whole game, which is why a mean-reversion rule on its own is incomplete.