Yesterday, I shared how to develop and test a theory about improving your trading system.
We tested a theory about the distance from the 50-day moving average and found that you can significantly improve a system I trade using a simple rule based on it.
But what if our theory hadn’t panned out?
Even when this happens, it often plants the seed for new ideas and theories to test.
Or what if, during the testing process, you came up with another theory that might improve your trading system?
Maybe you realize the 50-day moving average isn’t that helpful, but something more recent might be.
You review some more charts and get curious about two more data points.
Some trades in your system have large gaps from the previous close, but others don’t.
Some trades have big moves on the day before the trade, others don’t.
So you add columns to test these new theories to your backtest.
And remember, you haven’t changed the basic logic of your backtest, you’ve just added columns to your existing trade set.
Instead of a “guess and check” approach that leads to an endless loop, your backtest becomes a powerful tool to let you hone in on optimal answers to your questions.
And the only limit is your imagination and creativity.
Tomorrow, I’ll show you how to turn this simple process into a way to make it easier and easier to generate profitable trading strategies from your ideas over time.
Instead of an endless loop of “guess and check” frustration, an upward spiral for your trading.
-Dave
P.S. If you’re enjoying this series on backtesting, you’re going to love the Strategy Cruncher. It’s the tool I’ve used for years to create the 30+ trading strategies I trade every day.
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