In harmonic trading we use the Hurst Exponent as an estimate of predictability of a price data stream. It indicates if the price action is likely to have:-
The values of the Hurst Exponent range between 0 and 1.
In Harmonic Trading, when the patterns identify possible reversal trades, the Hurst Exponent should ideally be between 0 and 0.5. (Note this is true regardless of a bullish or bearish trade). The lower and steeper the Hurst Exponent is, the better it is.
In the example above, although the Hurst is heading downwards, it is still around the 0.5 level, indicating randomness. This is not ideal and suggests a slightly weaker probability of a reversal than we would ideally like to see.
I use Hurst just as a filter to help me determine how heavy or light I should take the trade - not to influence if I take the trade or not.
So when Hurst is around 0.5 or above, then that tells me to place a lighter trade than usual - using less leverage.
A Hurst Exponent value H between 0.5 and 1 - indicates "persistent behavior", that is the time series is trending. If there is an increase from time step [t-1] to [t] there will probably be an increase from [t] to [t+1]. The same is true of decreases, where a decrease will tend to follow a decrease. The larger the H value is, the stronger the trend. Series of this type are easier to predict than series falling in the other two categories.
A Hurst Exponent value H between 0 and 0.5 - exists for time series with "anti-persistent behaviour". This means that an increase will tend to be followed by a decrease (or a decrease will be followed by an increase). This behaviour is sometimes called "mean reversion" which means future values will have a tendency to return to a longer term mean value. The strength of this mean reversion increases as H approaches 0.
A Hurst Exponent value H close to 0.5 - indicates a random walk (a Brownian time series). In a random walk there is no correlation between any element and a future element and there is a 50% probability that future return values will go either up or down. Series of this type are hard to predict.
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