My suspicion was that R3/R4 was some kind of an RSI combo play… R3 for entries, R4 for exits, or whatever. But your theory sounds like you may be onto something, and it would indeed explain the outrageous gains they’ve recorded. Please let us know how the in-the-money options experiment goes. Y’know, the one you do in some of that spare time Thanks for the info!

All my backtesting with R2 to date has been encouraging. It seems to perform reliably well in different kinds of markets, and that’s not too shabby.

My tests against the historic data of the NASDAQ Top 100 (the individual stocks, not the index) have been generally profitable. My trades were in lots of 100 shares, held for a week or so on average, and yielded an average profit of 40 to 60 bucks per trade after commissions. My net average yield is something like one percent per trade. Not too shabby, and I’ll take it, unless I have something better, but…. It would be hard to replicate these results in practice. It often requires holding several positions simultaneously, and having huge exposure in the equities market (I don’t know about the rest of you guys, but holding 100 shares of GOOG puts a hefty dent in my walking-around money.)

Anyway, my bet is that the R3/R4 system is, as you suggest, a tweaked and tuned variant of R2. I think the big difference is that R3/R4 uses long, in-the-money call options rather than the purchase of the underlying. That could leverage your returns well above the one-percent range. Delta for a deep-in-the-money call is damn near one, so you’d essentially get the same profit profile for a fraction of the investment, thus boosting your percent profit significantly.

Can I prove it? Probably not, but I am going to do a test. I’m going to take one of my R2 spreadsheets from SD, mock up some options prices using a Black-Scholes model, and recalculate what my returns would have been based on a strategy of trading options using the same buy and sell rules, to see if it approaches anything like the 260% they claim. (I know, in all my spare time, right?)

I haven’t done much backtesting of the R2 method but I have done some spreadsheet backtesting that was, as you suggest, on variations of it. I too find that there’s something to it.

You can also just use, say, Yahoo’s new charts. Their RSI technical study seems accurate and they have nice bouncing balls that get attracted to the closing prices and to the RSI data points so that you can see where you are. I was astounded just with my first inspection of SPY and RSI2 that way.

One thing that I found (something like the TradingMarkets improvements) was that if RSI2 gets hung up above 75 for, say, three days, then if it comes down below 25 you don’t want to go long the first day below 25. It definitely pays to wait another day. But if it only went up above 75 for one day and then went down below 25 you want to go long immediately. Sometimes you can bang back and forth for three or four days in a row with a winner each day and without having to wait more than a day to cash in.

I can add that it doesn’t seem to work for daytrading.