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In my opinion backtesting may be a really effective tool if utilized correctly.
The issue is that numerous traders over-use the functions provided from the different backtesting software packages and consider more is far better. Numerous so-called method developers try to imply that the longer you backtest the much better and a lot more robust your program will be. That’s not usually true.
Let me use the e-mini S&P as an example. In 2000 the average daily variety was 100-150 ticks per day; in 2004 it was only 40-60 ticks per day. Should you backtest any trend-following day trading system inside the e-mini S&P you’ll see that it worked perfectly right up until 2002 and then suddenly fell apart. It seems that you can find no much more intraday trends. That’s not surprising as the daily range from the e-mini S&P decreased by a lot more than 50%.
What happened?
There are a couple of factors. Most likely the most important one may be the introduction from the Pattern Day Trading Rule in August and September 2001by the NYSE and NASD: If a trader executes four or more day trades inside of a 5 company day period then he must maintain a minimum equity of $25,000 in his margin account at all times. Simply because of this rule made traders stopped online daytrading equities and started trading the e-mini S&P future instead.
Look at the sudden increase in volume inside the e-mini S&P in the beginning of 2001:

Several of these stock daytraders used methods to scalp the market for a few penny. Using the e-mini S&P they suddenly had a much increased leverage, having to pay much less commissions, and their methods were really profitable.
Unfortunately, these scalping methods kill an intraday trend almost instantly, producing almost every trend-following approach fail.
Another reason for that dramatic change from the industry was the introduction from the automated online daytrading strategy execution in TradeStation. In 2002 TradeStation’s customers who were using this feature increased by 268%. Overbought/Oversold strategies became very well-liked and once the industry made an attempt to trend these online daytrading strategies immediately established a contrary position.
Conclusion
When backtesting you will need to know these issues. It’s not enough to just run a system on as a lot data as achievable; it’s essential to learn the underlying industry conditions.
In non-trending markets like the e-mini S&P you will need to use trend-fading systems, and in trending markets like commodities you should use trend-follwing methods.
And that’s when clever backtesting helps you:
If your backtesting tells you that a trend-following approach worked in 2000-2002, but doesn’t work in 2003 and 2004 then you should not use this strategy right now.And vice versa: When you see that a trend-fading approach produced nice profits in 2003, 2004 and 2005, then trade it.
I haven’t yet seen an online day trading strategy that works in all market conditions: trending and non-trending. Normally a strategy works very nicely in A single marketplace condition (e.g. trending) and produces small losses in the OTHER marketplace condition. That’s why you require to alter daytrading strategies.
And THAT’S where backtesting can help you.

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Tags: finance, investments, wealth building

Tags: finance, investing, investments, wealth building