Backtesting is a forex trading strategy that consists of simulating trades with real market data in the past, in order to analyze their theoretical performance. It consists simply in “working” a strategy with past data and see how it worked. A good strategy will increase the capital invested over time. The backtesting process will be able to evaluate various combinations of parameters and choose the ones that had the best performance in the past. However, just because a strategy has had excellent performance in the past does not mean that it will automatically continue to be successful in the future:
The points to take into account when developing the Backtesting strategy of Forex Trading
An adequate strategy backtesting process will not only take into account the evolution of the theoretical invested capital, but also the volatility of the yield and the probability of capital loss in the face of events such as margin call and stop out. In other words, you must take good investment risk management into account. Another fundamental point to keep in mind is that a strategy can work excellently for months or years, and suddenly, it can simply stop working in the face of changes in market behavior. In statistics, we call these changes “structural breaks”. For this reason, just because the backtesting of a strategy tells you that it behaved fabulously for years, does not mean that you should blindly trust that it will continue to generate money indefinitely. In the event of a structural breakdown, the strategy could cease to be useful.
The Importance of Backtesting Forex Trading Strategies
Backtesting of trading strategies is extremely important when trading on forex. We consider backtesting to be the first step when developing a strategy. From the algorithmic point of view, that a strategy passes the backtesting test is a necessary but not sufficient condition to be approved. One of the main benefits of using a strategy is that it will allow us to make a trading less influenced by emotions, when the trading is not 100% automatic, or to make automatic trading. The main benefit of using backtesting strategies in forex is that it can save us weeks or months of trial and error. Without using backtesting, an investor can take years to develop a strategy, which can take time, as well as time, money lost by not taking advantage of the opportunities offered by the market. The backtesting of strategies will save us all this time and money. So, to conclude with this introduction, we can say that to become a successful trader you must know how to build and optimize your forex.
How To Make Good Backtesting Strategies?
Have you already convinced yourself that you have to do backtesting of strategies? Now we will explain you how to do it. The first thing you have to bear in mind is that we can group the ways to do backtesting of strategies in forex, in two groups: 1- Manual Backtesting 2- Automatic Backtesting…
It consists of looking at the charts of the past and manually finding the trades that would have executed our strategy if someone had it in the past. In each trade, the amounts and buying and selling prices are recorded, for example, in an Excel spreadsheet. When you reach the present period, you add up the results of all trades. As you may have noticed, manual strategy backtesting is time consuming and prone to human error. A more efficient way is automatic strategy backtesting.
Automatic backtesting of forex trading strategies is done with software such as Metratrader. The forex software allows us to general trading rules using various indicators, such as Moving Averages, RSI, etc. The rules can range from simple rules that are based on a few simple indicators, such as complex algorithms that take into account many indicators and prices and volumes from different markets and currency pairs. Seems simple? Don’t be so quick, because this type of strategy backtesting can also take a long time to develop, especially when it comes to complex strategies. But once developed, automatic backtesting can test the strategy using data from years, in a matter of seconds. Most of the programs that allow strategies to be made also allow their parameters to be automatically optimized. And this is a great advantage, because it is not necessary to rewrite the strategy code for each of the parameter values (Stop Loss, Take Profit, Execution Time, etc.). Also, many forex trading programs, which include the possibility of developing Backtesting Trading Strategies, also allow trading in real time with the strategy previously developed, without the need for human intervention. For this, the broker has to have enabled the trading with the software in question. The most popular software nowadays is Metratrader. Many brokers allow trading with Metratrader, e.g. FxPro. This broker not only allows to use Metratrader (MT) but also offers the product FxPro Quant, which is a visual strategy builder, which can be used in Metratrader and also in cTrader. FxPro Quant has templates that allow you to get started faster. Using FxPro Quant you don’t need to know programming to develop trading strategies, because its drag and drop visual interface allows you to connect traders, functions and technical indicators using just the mouse.