Overview
Darvas Box Theory is a price-based trading approach created by Nicolas Darvas in the 1950s. It identifies short-term “boxes” — ranges defined by recent highs and lows — and uses breakouts above those boxes, confirmed by volume, as buy signals. Traders then trail protective stops as new boxes form. The method combines momentum-based technical rules with selective fundamental filters (Darvas called himself a “techno‑fundamentalist”) and was developed when real‑time data were rare, so it emphasizes clear, rule‑based entry and exits.
Key definitions
– Technical analysis: evaluating securities by studying past price and volume patterns rather than company fundamentals.
– Momentum: the tendency for securities that have been rising to keep rising in the near term.
– Box (Darvas box): a price consolidation defined by a recent high (resistance) and a recent low (support). A breakout above the box high is treated as an entry trigger.
– Breakout: when price moves above a defined resistance level (box high) on increased volume.
– Trailing stop: a protective sell order moved up as the price moves in your favor to lock in gains.
What the method tells you (in plain terms)
– Look for stocks making new highs within a clear consolidation range.
– Require volume confirmation on breakouts (higher-than-normal volume).
– Enter only when price breaks above the box high; exit when price falls out of the box or when your trailing stop is hit.
– Prefer stocks and sectors with strong growth potential — Darvas focused on companies likely to excite investors.
Step‑by‑step checklist for a Darvas‑style trade
1. Screen for candidates: identify stocks showing recent strong price appreciation or new highs; favor growth industries.
2. Draw the box: mark the recent consolidation’s high (resistance) and low (support).
3. Confirm volume: check that breakout day’s volume is above average (supports momentum).
4. Enter: buy after price closes above the box high (or on an intraday breakout, if your rules allow).
5. Set initial stop: place a stop just below the box low (or a few ticks/percent below it).
6. Trail the stop: when a new, higher box forms and price breaks above its high, move the stop up to just below that earlier box’s low (or previous breakout level).
7. Exit: sell if price falls below the active box low/stop or if fundamental reasons invalidate the thesis.
8. Record and review: log entries, exits, volume, and reasons — iterate your rules.
Worked numeric example
Assumptions:
– You use daily charts.
– You choose position risk = 1% of account.
– Account size = $10,000, so risk per trade = $100.
Price action:
– Stock consolidates between $40 (box low) and $45 (box high).
– Breakout: stock closes at $46 on higher-than-average volume.
Trade setup:
– Entry price = $46.
– Initial stop = $39 (a point just below the box low — here $40 minus $1 buffer).
– Risk per share = $46 − $39 = $7.
Position sizing:
– Risk per trade = $100.
– Position size = $100 / $7 ≈ 14 shares (round down to 14).
Outcome tracking and trailing:
– If a new box forms later between $50 and $55 and the stock breaks above $55, you would move your stop up to just below $50 (the new box low) to
protect the gain you’ve already earned while still giving the stock room to trade. If the breakout to the new box high ($55) carries the price to $56 and you move the stop to $49 (just below the new box low of $50), then if the stop is hit you still lock in a profit of $49 − $46 = $3 per share (3 × 14 shares = $42).
Practical rules for trailing stops and exits (Darvas-style)
– Move stops only when a higher box forms and breaks to the upside. That preserves the original Darvas discipline: use box lows as your stop reference.
– Place stop just below the box low (a small buffer of $0.50–$1 to allow noise is common).
– Lock profits: when stop > entry, the position has a guaranteed minimum profit if the stop is hit.
– Partial exits: consider selling a portion (e.g., 25–50%) at predetermined reward multiples (see risk/reward below) to reduce exposure and lock gains.
– Exit immediately if price closes below the active box low on higher volume — that
— that indicates a breakdown and invalidates the current box.
Risk/reward considerations
– Define risk per share as entry price minus stop price. This is the dollar amount you stand to lose if the stop is hit.
– Position size formula (shares) = (account risk in dollars) / (risk per share).
– Account risk in dollars = account value × risk percentage per trade (e.g., 1%).
– Example: account $50,000, risk 1% → $500 at risk. Entry = $30, stop = $27 → risk per share = $3. Shares = 500 / 3 ≈ 166 shares.
– Round down to whole shares and allow a small cash reserve for commissions/slippage.
– Risk/reward ratio: compare expected gain targets to risk per share. Darvas practitioners often trail stops rather than set fixed targets, but partial profit-taking at predefined multiples (e.g., 2:1 or 3:1) can be used to lock gains.
– Example: If risking $3 per share and you sell a partial lot at $36 (reward $6), that’s a 2:1 reward-to-risk on that portion.
Backtesting and performance pitfalls
– Survivorship bias: backtests that exclude delisted stocks will overestimate performance.
– Look-ahead bias: avoid using future information when determining entry/exit rules.
– Transaction costs and slippage: include realistic spreads, commissions, and execution delay; Darvas breakouts can gap, causing different effective entries/stops.
– Sample size: test across many market regimes and sectors; a few successful stocks don’t validate a system.
Checklist for objective Darvas-style trading
1. Identify a box: mark a clear high and low bounded by several days of price action (define how many — common choices: 3–10 days).
2. Confirm breakout: price closes above box high on above-average volume (define your volume threshold, e.g., 20% higher than the 20-day average).
3. Entry: buy on close above box high or on a small pullback to the breakout price (predefine which).
4. Initial stop: place just below the box low plus a small noise buffer (e.g., $0.50–$1).
5. Position sizing: calculate shares via the position size formula above using your predetermined risk percentage.
6. Trailing stop: move the stop only when a new higher box forms and is confirmed; place the stop below the new box low.
7. Exit rules: immediate exit if price closes below the active box low on higher volume; partial profit-taking at predefined multiples if desired.
8. Recordkeeping: log every trade’s rationale, entry, stop, exit, volume, and emotion notes for review.
Worked numeric example
– Setup: account = $100,000, risk per trade = 0.5% → risk dollar amount = $500.
– Stock forms a box between $40 (low) and $44 (high). Breakout: price closes at $45 on 25% above-average volume.
– Entry decision: buy at close $45.
– Initial stop: box low $40 minus $0.75 buffer = $39.25. Risk per share = 45 − 39.25 = $5.75.
– Shares = 500 / 5.75 ≈ 86 shares.
– Position cost ≈ 86 × $45 = $3,870.
– Trailing: a new box forms with low $48 and high $52; price later closes at $53. Move stop to below new box low (e.g., $47.50). If stop is above entry, that portion is locked profit.
– Partial exit: sell 43 shares (50%) when price reaches $61 (targeting about 2.5× initial risk on that half), keep remainder to let trend run with the trailing box stop.
Variations and modern implementations
– Quantified Darvas: codify box formation rules (minimum box length, minimum days between highs/lows) and test systematically.
– Volatility-adjusted buffers: instead of fixed $0.50–$1 buffers, use average true range (ATR) multiples; e.g., place stop ATR × 0.8 below box low.
– Use alerts or automated orders for breakout executions to reduce emotional slippage.
Advantages and limitations
Advantages:
– Simple, rules-based approach that emphasizes momentum and trend following.
– Built-in risk control via box lows used as stop references.
– Works well in strong trending markets where breakouts carry momentum.
Limitations:
– Many false breakouts in choppy markets; requires strict volume confirmation and stop discipline.
– Can underperform in mean-reverting or low-volatility environments.
– Requires discipline to move stops only on valid new boxes — discretionary adjustments can erode edge.
– Historical survivorship and selection bias in anecdotal success stories.
Practical tips
– Predefine all parameters (box definition, volume threshold, buffer size, risk per trade) before live trading.
– Start small or paper-trade to validate rules in your chosen market and timeframe.
– Regularly review trades and backtests; adapt parameters only after rigorous testing, not after a few losses.
– Consider combining Darvas box signals with trend filters (e.g., price above a longer moving average) to reduce whipsaws.
Educational disclaimer
This explanation is educational and does not constitute individualized investment advice or a recommendation to buy or sell securities. Always consider your own financial situation and, if needed, consult a licensed financial professional.
Sources
– Investopedia — Darvas Box Theory: https://www.investopedia.com/terms/d/darvasboxt
heory.asp
– StockCharts — ChartSchool, “Darvas Box Theory”: https://school.stockcharts.com/doku.php?id=chart_analysis:darvas_box_theory
– Wikipedia — Nicolas Darvas and “How I Made $2,000,000 in the Stock Market”: https://en.wikipedia.org/wiki/Nicolas_Darvas and https://en.wikipedia.org/wiki/How_I_Made
Worked example: simple Darvas-box trade (numeric)
Assumptions
– Account equity: $50,000.
– Risk per trade: 1% of account = $500.
– Timeframe: daily bars.
– Box formation: recent swing high = 110 (box top), swing low = 100 (box bottom). A breakout occurs when price closes above 110.
– Stop rule: stop placed at box bottom (100). You may use a small buffer (e.g., 1–2%) below the box to avoid getting stopped by noise; this example uses the box bottom itself.
– No
No commissions or slippage assumed.
Complete numeric worked example (step‑by‑step)
Assumptions restated briefly
– Account equity = $50,000.
– Risk per trade = 1% of account = $500.
– Box top (breakout level) = 110; box bottom (stop) = 100.
– Breakout confirmed when price closes above 110; for this example we enter on the next bar at 111 (simple, realistic choice: next‑bar open/close).
– Stop placed at box bottom = 100.
Step 1 — compute dollar risk per share
Risk per share = Entry price − Stop price = 111 − 100 = $11 per share.
Step 2 — compute how many shares to buy
Position size (shares) = Risk per trade ($) ÷ Risk per share ($)
= 500 ÷ 11 = 45.45 → round down to 45 shares (you cannot buy fractional shares in most retail accounts).
Step 3 — check actual dollar risk and cash required
– Actual dollar risk = 45 shares × $11 = $495 (very close to target $500).
– Cash required to open position = 45 × $111 = $4,995 (≈10% of account).
Step 4 — set a profit target (simple Darvas rule example)
A common quick target using the box height: Box height = 110 − 100 = $10. Target = box top + box height = 110 + 10 = $120.
If price reaches $120:
– Profit per share = 120 − 111 = $9.
– Gross profit = 45 × $9 = $405.
– Reward-to-risk ratio = 405 ÷ 495 ≈ 0.82:1 (below 1:1 in this particular entry).
Alternative entry/stop choices and their math
1) Enter at the breakout close (110), stop at 100:
– Risk/share = 10 → shares = 500 ÷ 10 = 50 shares.
– Risk = 50 × 10 = $500. Cash = 50 × 110 = $5,500.
– Profit at 120: (120−110)×50 = $500 → R:R = 1:1.
2) Use a 1% buffer below box for the stop (stop = 100 × 0.99 = 99), entry = 111:
– Risk/share = 111 − 99 = $12 → shares = 500 ÷ 12 = 41.66 → 41 shares.
– Risk = 41 × 12 = $492. Cash = 41 × 111 = $4,551.
– Profit at 120: (120−111)×41 = $369 → R:R ≈ 0.75:1.
Interpretation and practical notes
– Position sizing formula: Shares = (Account Equity × Risk%) ÷ (Entry − Stop). Always round down so you don’t exceed risk.
– The entry price matters: buying at the breakout close (110) gives a better R:R in this setup than buying the next bar at 111. Real trading may force you to use the next available price.
– Darvas’s method is trend‑following; if the breakout accelerates you may prefer a trailing stop or partial profit taking rather than a fixed box‑height target. Trailing stops convert favorable moves into higher R:R.
– Use realistic assumptions for commissions, slippage, and margin, and recheck position size if using leverage.
– If R:R is below your requirement (many traders look for ≥1:1 or ≥1.5:1), either reduce size (to lower absolute risk) or wait for a better price/stop placement.
Quick checklist before entering a Darvas box breakout
– Confirm box top (resistance) and box bottom (support) visually.
– Wait for a close above box top (or a defined breakout trigger).
– Calculate risk per share = Entry − Stop.
– Compute shares = (Account × Risk%) ÷ Risk per share; round down.
– Place entry, stop, and (optionally) profit‑target or trailing stop.
– Monitor for news or gaps that invalidate the box.
Educational disclaimer
This is educational