Thursday October 15, 2015 - 10:37:16 GMT
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Backtesting Can Help You Refine the Perfect Forex Trading Strategy
You might have heard traders speak of the concept of Forex backtesting. The idea behind backtesting is to see how your trading strategy works in the context of the market, before actually investing. Since it is such an important aspect in successful Forex trading, we’ve compiled this short guide as to what backtesting is and how it works.
What is backtesting?
Forex backtesting is a way of simulating your strategy on past Forex data and provides analysis. You can then use that data to refine your strategy, using the backtest as a projection of the market’s future.
With this information, you have insight as to how your strategy will work in real time. Of course, one of the major drawbacks of backtesting is that it does not take into account human inconsistency. However, with backtesting you get a good foundational understanding, from which you can project how to deal with possible erratic behaviors.
Advantages of backtesting
With backtesting you can determine characteristics of your strategy that will help towards its success. For example, you can see at what times your strategy performs best, and save time when performing transactions later on.
It’s also a great way for beginners to get used to how the markets work, without risking their money immediately.
Many successful traders use backtesting to develop their strategies.
There is a range of backtesting software available, but some of the best backtesting (especially for beginners) is done manually.
Manual backtesting requires a lot of hard work, with just your price chart. It takes a few stages:
- clearly define the rules of your trading - exit and entry points, values of stop losses and take profits, and any other items included in your trading strategy
- prepare your chart, applying indicators, graphical object, and other tools
- go back a year, and go through the chart imitating your strategies according to the rules you've set
It is strongly recommended to do this manually before using software.
You can test your strategy with the most common trading software - MetaTrader 4 - using “strategy tester”. You can get pricing logs from Admiral Markets.
With MetaTrader 4’s Strategy Tester, you can apply the optimisation feature to get feedback on the net result of your trading, profit/loss comparisons, and information about drawdown, and simple counts of profitable trades.
Who should use backtesting?
Every Forex trader can use backtesting to his or her advantage. For beginners, it’s a safe way to get used to the markets, learn to understand the patterns, and create their own strategies.
For experts, backtesting can be used to refine already existing strategies, as well as to test alternative strategies in comparison to their own.
Backtesting is one of the most important tools when trading Forex. When used properly, it is both educational and practical. Try using some of the backtesting software out there, in addition to doing your own manual backtesting.
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