Forex backtesting: How To Evaluate A forex trading

System

Forex backtesting: How To Evaluate A forex trading

System

Forex backtesting

Just looking at the statistics on the number of successful forex traders, it is easy to know that Forex trading is not easy. The rewards are huge if you you are successful, but the risks are just as huge. One way that can help you get a great understanding of forex and help you be a successful trader is to learn how to use forex backtesting to evaluate a forex trading system.

Forex backtesting

Before we get into the nuts and bolts of forex backtesting, it is a good idea to look at some of the basic definitions of a forex system and backtesting.

What is a Forex trading System?

A forex system is a set of rules that tell you when to buy or sell a currency. This could be based on a set of signals from technical analysis, charting tools, or news based events. A system can be either manual or automated. A manual system involves a traders analysis, looking for signals to decide when to buy or sell. While on an automated system, the trader can use software to look for certain signals and to interpret these signals.

What is a Forex trading System?

There is really no right or wrong way here, it is more of a preference. However, many prefer an automated system as it leaves out the emotions that can lead many traders to take bad decisions.

What is Forex Backtesting?

With a forex system, there are some strategies that the system will use to give trading signals. Forex backtesting is a way to test these strategies and find out how well the system performed in the past.

What is Forex Backtesting?

This is done by using historical data, and to find out how that strategy would have worked if it had been used at that time. Backtesting doesn't imply how a strategy would perform now or under future conditions. The markets do change over time and many factors can make the hypothetical performance and the actual performance differ significantly.

What is Forex Backtesting?

So, while forex backtesting does not guarantee a profitable strategy, it is a huge step in the right direction. This is why many successful traders are always backtesting their trading strategies.

How To Do Forex Backtesting

There are two methods to use when doing forex backtesting. There is an automated backtesting where the trader can set the rules and criteria of the strategy, and the software will automatically track the historical data and give a picture of how that strategy would have performed at that time.

How To Do Forex Backtesting

The other method is manual. This would be done by going back in time on the chart and manually employ the trading strategies and see if they would have worked in a real-time environment. The biggest disadvantage of the manual method is there is a lot of work involved. This makes it difficult to be sure that the backtesting is objective in the manual method.

How To Do Forex Backtesting

There are two considerations that a trader must be aware of when doing forex backtesting. Both of these considerations will help you get better results in your forex backtesting. The first one is choosing the right time frame. This is basically receiving enough trades to make the data statistically valid. For example, if an account conducts 3 trades per month, then it best to backtest several years to get enough data.

How To Do Forex Backtesting

The second consideration is similar as the bigger the sample data the better the result. If you get a big sample data, the smaller the margin of error and establish more reliable data. An example of this is to combine 3 years of backtesting with 6 months of a forward test to develop a new trading strategy.

How To Do Forex Backtesting

Now you know to use forex backtesting to test your system and strategies in trading and build a solid trading strategy. This can save you a lot of time and money from using a trading strategy that is unrealistic or unprofitable.