Backtesting and techniques for determining your overall profitability

Now that you have learned everything related to trendlines, it is time to focus on backtesting and techniques for determining your overall profitability. If you don’t understand your profitability, there is no point in trading the Forex market. Therefore, keep reading to find the techniques to calculate your overall profitability.

Before we dig in deeper, you should know that backtesting isn’t for every trader or the system. This is why you have to be careful before utilizing it. However, as per stats, backtesting has helped a lot of people to become successful in trading. If you are in the learning process of trading, you need this technique.

If you use backtesting and techniques accordingly, you will be able to take trading to a better level while earning profits.  

Definition of Backtesting

This is basically the procedure that helps the trader to identify how the strategy works by using historical data. The past data is analyzed to determine the performance so that the trader can decide. As per the theory, if a system was successful in the past, the same will happen in the future.

During the changes in the market condition, you have to be considerate about the limitations of using this testing. Apart from the limitations, you can consider it as a strategy that will help you profit from the market.

For example, if you want to check a Relative Strength Index (RSI) strategy, it will look like:

• You should enter a trade when the indicator crosses from oversold
• The stop below/above the recent low/high
• Place 2X risk profit target
• 1% risk per trade

Here are some sell signals.

If you want to check whether the strategy is profitable, you need to check it on historical data. From 2001 to date, it can be considered a standard period for backtesting. If you test the strategy for a more extended period, you will be able to check how it has been performing in different conditions of the market.  

If you check just a market, you will not be able to get a clear picture of the way the strategy works. For example, if you are checking a trend following sys in a market that is trending, then you will definitely, find it profitable. To ensure its profitability, you need to check the system on a choppy market, as well.

You can understand it, now, right?

How to get the best out of backtesting in Forex?

We have explained that backtesting will help the traders make profits by analyzing how it has been performing for an extended period. Apart from this, you can utilize the backtesting strategy for many other things, too. Let’s check some of the benefits that you can get from this strategy.

Practice- Just like a professional player learns the basics, such as simple movements, a professional trader needs to begin his or her trading journey by practicing the necessary things.

The kind of practice that you need will be offered through spotting opportunities. For example, backtesting is one of the best methods to practice trading even if the market isn’t open.

However, some traders might assume that this is a waste of time, but it is not. You are sharpening your skills, which is essential to make profits from Forex trading.

Confidence- When you practice, you will eventually become confident in what you do. The best part of backtesting is the confidence that comes along with that.

The more you understand the system, you become more confident because you become aware of the whole system. Even if you lose a trade, you will not punish yourself for it. It is essential to accept the market as it is and to know losses and profits are equally possible in trading.

If you apply what you learned, you can become stronger in what you do.

If you know how things work, you will be able to stop when things don’t work as they should. And that will save you from losses. You can quickly identify the market condition if that doesn’t support your system.

If you know this, you will be confident in trading. However, as a beginner, you need to understand that backtesting strategy isn’t a bed of roses. Now, let’s check one of the things you need to be aware of concerning backtesting.

Be aware of Curve fitting

This is the most prominent term that you will come across when learning to backtest. This means when you backtest for a short time while over-optimizing it for the same period. Even though it will look great as a theory, you might have difficulties when using it in real trading.

That said, you need to read, understand, and learn before using any strategy or technique in Forex trading! By following these procedures, you can find your place in the Forex market.