---
description: "Constructs a dollar-neutral ETF portfolio by selling ETFs with high Internal Bar Strength (IBS, close near daily high) and buying ETFs with low IBS (close near daily low), exploiting short-term mean-reversion."
tags: [etfs, mean-reversion, ibs, internal-bar-strength]
---

# Mean-Reversion (ETFs)

**Section**: 4.4 | **Asset Class**: ETFs | **Type**: Mean-Reversion

## Overview
This strategy applies mean-reversion to ETFs using the Internal Bar Strength (IBS) indicator, derived from the previous day's close, high, and low prices. ETFs with a close near their daily high (high IBS) are considered "rich" and likely to revert downward; ETFs with a close near their daily low (low IBS) are "cheap" and likely to revert upward. A dollar-neutral portfolio sells high-IBS ETFs and buys low-IBS ETFs.

## Construction / Signal
**Internal Bar Strength (IBS)**:
```
IBS = (P_C - P_L) / (P_H - P_L)                           (370)
```

Where:
- `P_C` = previous day's closing price
- `P_H` = previous day's high price
- `P_L` = previous day's low price

IBS ranges from 0 to 1:
- IBS close to 1: price closed near the daily high → ETF is "rich"
- IBS close to 0: price closed near the daily low → ETF is "cheap"

An equivalent symmetric measure: `Y = IBS - 1/2 = (P_C - P_*) / (P_H - P_L)` where `P_* = (P_H + P_L) / 2`; Y ranges from -1/2 to +1/2.

**Portfolio construction**:
- Sort ETFs cross-sectionally by IBS.
- Sell ETFs in the top decile (high IBS, "rich").
- Buy ETFs in the bottom decile (low IBS, "cheap").
- Dollar-neutral construction.

## Entry / Exit Rules
- **Entry**: Each day after the close, compute IBS for all ETFs, rank, and enter positions for the next day's open or close.
- **Exit**: Typically hold for 1 day (short-term mean-reversion); close at next day's close.
- **Rebalance**: Daily.

## Key Parameters
- **IBS computation**: Daily, using previous day's high, low, and close
- **Holding period**: Short-term (typically 1 day)
- **Portfolio construction**: Dollar-neutral long/short decile
- **Weights**: Uniform for all long and all short ETFs, or volatility-weighted

## Variations
- **Volatility-weighted positions**: Weight positions by historical ETF volatility rather than equal-weighting
- **Stock mean-reversion methods**: Mean-reversion strategies from Section 3 (cluster, weighted regression) can also be adapted to ETFs
- **IBS threshold**: Instead of top/bottom decile, use a fixed IBS threshold (e.g., IBS > 0.8 = short, IBS < 0.2 = long)

## Notes
- IBS is a simple, daily-bar indicator requiring only OHLC (open-high-low-close) data.
- Mean-reversion in ETFs can be stronger than in individual stocks because ETFs represent diversified baskets where idiosyncratic volatility is reduced, and market-maker arbitrage constrains large deviations from NAV.
- Holding period is very short (1 day); transaction costs can be significant for daily rebalancing.
- The strategy can be combined with other signals (e.g., sector momentum) for confirmation.
- All stock-based mean-reversion strategies (clusters, weighted regression) can be adapted for ETF universes.