Granville’s Rules Trading: Buy Signal 3 and Sell Signal 7 Explained

Granville's rules are a specific set of trading signals that incorporate the principle of mean reversion. However, similar to all technical tools, they should be utilised alongside other forms of analysis. Although moving averages are a main technical tool, they are a lagging indicator that follows price action. This approach also comes with challenges, such as determining the correct period for the MA settings, which is why traders must consider different types of tools alongside Granville's rules.

Granville’s Rules have four buy signals and four sell signals, which show the relationship between the position of the moving average (200-day MA) and the price. These signals are usually explained using conceptual charts, but candlestick live charts like the ones used in technical analysis should be considered here.

In this article, we will introduce buy signal 3 and sell signal 7, which appear when the price approaches the MA but returns to the trend without falling below the MA.

The theory behind buy signal 3 is known as a "shortfall". In the case of buy signal 3 (Illustrated by point A on the chart), buyers entered the market even before the price reached the MA, which was an indication that buyers were convinced that the uptrend may resume and didn't want to risk missing out on the move.

Let’s look at buy signal 3. First, we will look at the price movement after the signal appears.

Above, we see the EUR/JPY daily candlestick chart, with buy signal 3 appearing twice. After signal A appears, the price returns to the uptrend and moves higher. In contrast, after signal B appears, the price moves upward but immediately reverses and falls below the MA. As this example shows, buy signal 3 failed and the price fell below the MA a few times, creating multiple false signals halting the uptrend; this scenario requires strict risk management.

Now, let’s look at sell signal 7 and the price movement after it appears.

Above, we have the EUR/USD daily candlestick chart, with a mix of multiple signals as marked by letters from C - J.

All the points from C-J represent sell signal 7, however, between F & G, there was a break above the MA, which is a failed signal 7, but can be considered a signal 6 type as price crossed the MA then reversed back down, resuming its initial downward trend.

The difference between "buy signal 3/sell signal 7" and "buy signal 2/sell signal 6" is the price reaction upon approaching the MA. A brief cross and reversal of the MA, compared to price resuming its trend before reaching the MA.

Such signals appear when the trend is clear and multiple signals are triggered in a single move. In addition to appearing more frequently than other signals, it is also more likely that false signals occur, a scenario requiring extra attention.

Let’s analyse the trading strategy rule with buy signal 3. The crucial factor here is to use the average candle to determine the timing of the entry point. Enter when the average candle approaches the MA and the blue line changes to the red line, with a potential exit at the recent high.

The phrase "average candle" is used as a timing mechanism in some specific applications. It refers to the use of a price representation (often color-coded, like changing from blue to red) to help determine the entry and exit points in relation to the moving average (MA).

Let’s have a look at this rule in practice. In the chart above, buy signal 3 appears twice at A and B, and both are steadily rising. The average candle change from blue to red can be used to determine the expected move.

Now, let’s analyse the trading strategy of sell signal 7.

If this rule is followed, when trading at C and D where sell signal 7 appears, price steadily declines in both cases. We can also see that throughout the price journey on the above chart, other sell signal 7 can be identified.