Z-Score Deviation

Z-Score Deviation is a statistical measure that quantifies how many standard deviations a current price is from its mean. A high Z-score indicates that the price is statistically overextended, suggesting a potential mean reversion.

In algorithmic trading, Z-scores are used to automate entry and exit signals based on probability thresholds. This method removes human emotion from the decision-making process, relying purely on the distribution of historical returns.

It is particularly effective in mean-reverting markets where assets stay within a defined range. Traders must be cautious, however, as extreme events can push Z-scores to levels that defy historical norms.

It is a rigorous approach to evaluating relative value.