Kaufman’s Efficiency Ratio (KER)

Author: clonex

August 16th, 2020

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Kaufman’s Efficiency Ratio (ER)

The Efficiency Ratio (ER) was first presented by Perry Kaufman in his 1995 book ‘Smarter Trading‘.  It is calculated by dividing the price change over a period by the absolute sum of the price movements that occurred to achieve that change.  The resulting ratio ranges between 0 and 1 with higher values representing a more efficient or trending market.

The value of the ER ranges between 0 and 1. It has the value of 1 when prices move in the same direction for the full time over which the indicator is calculated, e.g. n bars period. It has a value of 0 when prices are unchanged over the n periods. When prices move in wide swings within the interval, the sum of the denominator becomes very large compared to the numerator and ER approaches zero.

Some uses for ER:
– A qualifier for a trend following trade; a trend is considered “persistent” only when RE is above a certain value, e.g. 0.3 or 0.4 .
– A filter to screen out choppy stocks/markets, where breakouts are frequently “fakeouts”.
– In an adaptive trading system, helping to determine whether to apply a trend following algorithm or a mean reversion algorithm.
– It is used in the calculation of Kaufman’s Adaptive Moving Average (KAMA).

How To Calculate the Efficiency Ratio

ER = Direction / Volatility

Where:

Direction = ABS (Close – Close[n])

Volatility = n ∑ (ABS(Close – Close[1]))

n = The efficiency ratio period.

 

Source: http://etfhq.com/

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