May 9, 2023
TC Squeeze aka. Stratus Indicator
A Definitive Measure of Volatility Contraction and Expansion
Eliminating Whipsaws from Classic Technical Indicators
Please note: this is the first edition of this whitepaper. As we continue our research we will update this whitepaper as needed.
There have been many attempts at quantifying a “squeeze” in the markets. Some look at it as a form of volatility, others as supply and demand traps. In order to be a useful indicator, it must produce objective signals. Without this, testing the significance of an indicator is nearly impossible. A true, tradeable, squeeze indicator must not only determine when volatility is expanding or contracting, but also produce an estimate as to the intensity of this move. Some attempts at solving this issue include:
- Bollinger Bandwidth
- Keltner Channel + Bollinger Band Squeeze
- High Short Interest Squeeze
The issue with most of these tools is that they feature calculations based on already existing indicators, because of this the squeeze calculation becomes a second derivative of the price and tends to lag behind the actual price moves. In these cases, the squeeze is better at forecasting the indicators than the price which may or may not be useful when employed with trading systems.
One indicator that has survived the test of time is Wilder’s Average True Range indicator. Without any fancy derivatives, Wilder calculated the true range over the past 14 periods which helps get an idea of how the volatility is compared to a short time back. Since this calculation is derived solely from price with no lagging elements it is able to adjust to the stock almost instantaneously. Wilder’s concepts and calculations have been a major inspiration to our work and were some of the major building blocks in this indicator.
In this white paper, we propose a novel answer to the squeeze phenomena- an indicator that is able to detect incoming short, medium and long-term consolidation periods as well as forecast when they will break out, and with what intensity. This can be used as a major component in not only momentum but mean reversion trading strategies. The indicator is very reactive with the price and allows for low-risk, high-reward trading setups. We call this the Stratus Squeeze.
The Stratus Indicator is a new type of separate pane indicator that attempts to highlight zones of sideways trading action, and show when the price is a breakout from a “squeeze” in a timely manner. This tool can be used for analysis or combined with other tools to create a trading system. Using various lookback periods, as well as calculations on the open, close, low, and high of the candle’s price the indicator is able to detect various squeeze intensities, as well as the underlying trend and directional momentum.
There are 4 major components to the indicator. The clouds, the fire line, the trend gauge, and the candle painting method. These are plotted on top of each other to create the entire squeeze indicator.
Here is what each of the elements represents:
● Clouds: A measure of volatility measuring from the short-long term.
● Fire Line: Momentum lines based on directional movement. Can be red or green depending on the direction of momentum.
● Trend Gauge: Measure underlying medium-term trend strength.
● Squeeze Candles: Paints candles based on squeeze conditions.
When used in tandem, these indicators are invaluable for forecasting future squeezes and their respective breakouts. The clouds function well at filtering intra-trend and intra-squeeze momentum fakeouts. While these might be tradeable on shorter timeframes, the clouds help prevent initiating trades with too eager of a target.
The momentum lines are based on a short-term lookback period, and therefore they tend to have some noise when it comes to signals. The complementary tools as part of this indicator help filter this noise.
The trend gauge allows for confirmation of trades. Trading bullish squeezes within a bullish trend will yield the most profitable and consistent results, as per our research. When the trend gauge is low, the clouds will usually be present indicating that no trend is in place, and momentum is minimal.
Finally, the squeeze candles. A simple, yet objective method for interpreting when to be bullish, bearish, or expect an incoming squeeze. While these often highlight profitable trades, it is recommended to use them in tandem with the full indicator to truly understand the meaning behind the change in candle color.
The Stratus Indicator was initially developed as a trading tool. We were looking for something to improve our entry and exit timing, however along the way we created something much more powerful. Beyond simple entries and exits, Stratus is able to assist in long-term forecasting of the price trend, momentum, and direction. From our testing, the Stratus Indicator has been able to detect positive price rallies far earlier than publicly available classic indicators. It is also able to detect fakeouts within its own signals. These aspects prove invaluable to not only short-term trading but portfolio rotation and future price forecasting as well.
While we designed the squeeze candles to be an objective method of interpreting the squeeze. The analytical and forecasting aspects come with the somewhat more subjective methods – at least until we can properly quantify them. Below you will find a few examples of how the squeeze performs during trading and forecasting scenarios. All of the following examples should be considered hypothetical.
- In Fig. 1, we can see the green line attempting to break out of the clouds, this is one of our favorite setups using the indicator. The price (SPX weekly 10/2021 - 01/2022) is pushing to new all-time highs but the momentum then reverses without exiting the clouds. This was a forecast of a weak all-time high which ended up being followed by an immense decline in price. This is an example of how the clouds prevented entering on a weak breakout.
- Next, we look at Fig. 2, the red circle shows one of our favorite setups to trade with the tool. Earlier we can see the momentum exiting the clouds indicating the initial squeeze breakout. The trend gauge began to increase, and the momentum exploded after a bounce on the trend gauge. As both bullish indicators continued to rally, so did the price. There was an early indication of reversal when the momentum crossed below the trend gauge, but the major signal was highlighted when the bullish momentum fully evaporated.
- Fig. 3, shows an example similar to Fig. 1, but on a much larger timescale. This shows the forecasting ability of the clouds and how they almost have a mind of their own when it comes to ignoring irrelevant price trends. The chart features the well-known “Bitcoin Double Top” and how the clouds now only predicted that the second ATH breakout was weak, but also that a bearish impulse was incoming.
- Some common knowledge about stock prices is that they tend to be fractal. This is an amazing concept that is featured within the indicator’s calculations. This allows us to use a larger or smaller timeframe to get a bigger picture of the squeeze. Larger timeframe charts will literally be a zoomed-out version of the smaller timeframe; allowing a trader to make more informed decisions by factoring in various trend lengths. Fig. 4, shows how the lower timeframe correlates with the higher one and how the higher timeframe filters some fakeouts from the lower ones.
- One issue with most public trading indicators is that the formula is public, because of this it can be manipulated by institutional traders. We noticed that oftentimes fake signals would be generated on many technical indicators at the same time before reversing back into the direction of the main trend. We hypothesize that this is mainly due to institutional manipulation. Fig. 1, and Fig. 3, highlight how the squeeze can prevent entering a weak all-time high breakout. Fig. 5, shows how the squeeze can prevent fakeouts from within a larger trend. The purple circle highlights areas where a classic technical indicator generated a buy signal but was deterred due to the underlying trend on the squeeze indicator.
The Stratus Indicator was conceptualized and implemented by Samuel Brodsky, Co-Founder of Technicus Capital in June of 2022. Since then, we continue to conduct research and optimize the calculations within the indicator to adjust to any errors we find. Since the formula is relatively new, we still have some aspects which could be improved upon.
As time, and funds, become available we will continue to research, test, and improve the calculations and trading systems involving the Stratus. Below, we will present some simple research and backtesting data that we have collected and formatted in an easy-to-interpret manner. Additional extensive testing can be found on our documentation GitBook page. To summarize our finding, we believe that with leverage and effective trade management it is possible to outperform some underlying assets without adding significant downdraw risk.
The first test we ran was a simple buy-and-hold test on the (all-time) $SPY daily chart. We set the program to buy when the squeeze candles turned green and sell when they turned red. We did not expect a high win rate, or profitability because we did not filter the intensity or presence of the underlying squeeze. Below are the results. With an average of 13 bars per trade, and a 0.53% average gain. This annualizes to ~10.3% yearly.
The weekly $SPY chart featured a similar win rate, but with a much higher profit factor. Still around 13 bars in trade. This time, given the weekly timeframe. The performance annualizes to ~12.5% yearly. Keep in mind that these are tests that include absolutely no filtering, or trade management rules. Shown below are the largest winning and losing trades for the weekly and daily tests respectively.
Appendix A: Examples
Here are some, unmodified, charts of major historical events in the financial markets. These are the exact charts that a user of our tools will see (given the same data feed).
SPY 2001/2008 Crash (Monthly)
What a time to be alive! In 2000, we saw momentum fading into the top of the rally. The red line shows where the green momentum finally diminishes and the red momentum starts to pick up. While yes, the momentum is in the clouds we can easily see that the end-of-trend forecast was not too bad. The 2008 crash was different. This came from a squeeze breakout. The clouds were rapidly diminishing and red momentum broke out to an extreme. Next, we’ll zoom into the daily chart to see how these moves played out in a smaller timeframe.
SPY 2001/2008 Crash (Weekly)
The lines featured on this chart are exactly the same as the ones above. We can see how similarly the indicators reacted on the smaller timeframe. The 2001 crash showed an early increase in the red trend along with a red momentum breakout from topping clouds. This strong momentum remained for the majority of the trend. The 2008 crash was signaled a bit later on the daily chart, but only by a month or so. The daily chart also shows us how momentum lost steam, and the clouds began to increase into the bottom of the 2008 crash.
BTC/USD 2019-2022 Peaks and Valleys (Monthly)
A beautiful example our the PERFECT set of events on our indicator. The first green box highlights a smaller rally that occurred in 2019. Our early exit signal was when the momentum crosses below the trend gauge. From there we see the clouds came up and the price consolidated for quite some time before quickly firing to the downside. To get technical, that was actually a 61% decline in price and it occurred during the COVID crash. Shortly after, we received our favorite bullish signal which features the momentum leaving the bands as they fade, and testing the trend as they both continue to the upside. Finally, we can see how the clouds came in during mid-2021, preventing us from entering an all-time high breakout, before sharply reversing to make new multi-year lows.
SPY 2020 Flash Crash (Daily)
A flash crash typically takes many traders, and trading systems by surprise. However, in the all-time high advance prior to the crash, our indicator signaled increasing bearish momentum followed by a brief cloud cover and continuation with heavy bearish momentum. These are highlighted by the blue boxes. The green line illustrates where momentum exploded through the top of the clouds, and just a few bars later the clouds completely faded. While a nice entry signal is great, how did it fare on exit timing? The blue circle is the simplest exit signal that can be generated using our system. This is when momentum crosses below the trend gauge. While this may not necessarily be the bottom of the decline, it does show that the crash was losing steam and we should be taking profits.