To have confidence in your trades, understanding the concept of Backtesting is essential. So what is a Backtest? This is an indispensable part of the trader’s toolkit. Without it, investing your money in the online financial market will become difficult. Let‘s learn more about this concept with Forex Trading!
Backtesting – Method of testing the effectiveness of a strategy
Backtesting is one of the most important methods when building a new strategy or trading system. Performing a Backtest helps traders choose the best settings. From there, apply it to your strategies.
What is the meaning of the Backtest process?
Backtesting is a trading strategy based on historical data of the foreign exchange market. Traders will look at information about currencies, news, and other factors from the past. From there, it is used to evaluate the effectiveness of the investment strategy. Once a Backtesting strategy has been established, it can be applied to planning for the future. It helps traders and analysts become more confident with their investments.
One of the notable points of Backtesting is the synthesis of all previously applied technical rules. It integrates analysis of potential profits over a certain period of time. A strategy is considered good when it brings positive results. This makes traders realize that it has potential and the ability to be profitable when applied in practice.
What are the advantages of Backtesting?
Although some people say that backtests can get boring. But reality shows that it brings many positive benefits to users.
- A deeper understanding of trading strategies: backtests allows traders to gain deeper insight into the effectiveness of their strategies. Check whether it will deliver expected future profits or not.
- Develop technical analysis skills: Helps traders develop their technical analysis skills. By detecting trading opportunities through analyzing price fluctuations and recurring patterns in the past.
- Build confidence: Backtesting is considered a good method to help traders build confidence. As you gain experience testing trades, you will feel more confident. From there, you can reduce anxiety when investing in the financial market.
See more: Trade with EA Forex: Reduce time, increase profits
How does Backtest work?
Backtesting works by using price-related data and reusing it in futures trading. Traders can use this data to evaluate flaws in their current strategy. From there, verify new strategies when applied directly on the foreign exchange market.
The data will be encoded by programmers during strategy simulation. Backtesting needs to be tested in many different environments to achieve the most objective results. From there, trading models will be adjusted more appropriately based on other feedback.
Additionally, traders will use several important indicators depending on the Backtesting software they use. These metrics can include ROE, P/L, volatility, and risk-adjusted returns.
The main goal of Backtesting that traders need to know
Backtesting is designed to achieve three important goals for users.
Goal 1: Achieve performance over a certain period of time
Traders will test their strategies for a specific period of time. For example, a strategy is designed to work best in highly volatile markets. However, through Backtesting, users may discover that the strategy achieves higher-than-expected returns during periods of less volatility. This is a warning signal and requires a strategic review.
Goal 2: Understanding in different environments
This goal helps traders test their forex investment strategies. It can happen in many timeframes, and situations and with many different currency pairs. This allows users to have a deeper understanding of their trading abilities.
Goal 3: Through Backtest to develop strategy
After viewing the strategy results through Backtesting, traders can proceed to fine-tune the strategy further. However, it should be noted that you should not change your strategy too often. Reality shows that this rarely brings profits to the trader. Because it can cause a loss of stability and lead to over-tuning.
Popular ways to Backtest trading systems
By using Backtest you can rely on past successful trades to apply in the future. Join Forex Trading to learn popular ways to Backtest trading systems!
Manual backtesting
Performing Backtesting manually requires time. Because the operator must do the job of searching for signals on the chart themselves. Then record the success or failure of the transactions. We need to collect large amounts of data to calculate the success rate of the strategy under consideration.
Advantages of manual Backtesting method
Although manual backtesting may seem laborious and time-consuming, it has a number of advantages:
- This manual backtesting method can be used by everyone.
- No need to use any special software.
- Any price-related settings that the trader wants can be checked.
- Simulate live transactions, thereby gaining a lot of practical experience.
- Performing manual Backtesting helps understand how the Backtest software works. This makes it easy to use that software to perform Backtest. Even develop your own automatic Backtesting software if you have programming skills.
The best platform to execute the strategy is Tradingview Backtesting
To perform Forex backtesting manually, you first need to use a price chart. Any platform such as MT4, MT5, or Ninja Trader can be used to perform Backtesting. However, arguably the best platform to execute the strategy is TradingView Backtesting with its advanced charting tools.
First, TradingView is an online platform. The platform does not require software installation and still provides a full range of superior functions. The most important reason to perform on this platform is the chart replay feature.
You can use this to start the chart movement from a point in the past and only see what happened after that point. The time you start playback is considered the current time. And you can watch the candle form later at a faster rate. Of course, you don’t have to wait until the session ends.
Backtesting using software
Performing manual Backtesting requires a lot of effort and time. At the same time, it may not be accurate because the operator may miss the signals. Therefore, automatic Backtest software is available to assist Traders in performing Backtest more simply and accurately.
Advantages of Backtesting using software
What are the advantages of backtesting? With today’s software, you can Backtest any price model or indicator. Even a complete trading strategy with rules for opening and closing orders. However, the condition is that they must be expressed in programming language so that computers can understand. Although this seems unfeasible for most traders unless we hire other developers.
The best platform to perform Backtesting using software is MT4
Forex Trading will help you learn how to do a simple Backtest with a type of strategy that is already available in the form of a programming language. That is an Expert Advisor (EA), also known as an automatic trading robot. The way to Backtest forex EA is quite simple and can be done with free tools or paid software. We can learn how to Backtest EA completely free using the tool available on the MT4 platform.
See more: Prestige Broker XTB: Elevate position of invest player
Instructions on how to trade view Backtesting
Use the Backtesting tool on TradingView as mentioned before. If you use the Basic version, you can use it for time frames from the day frame (D) and above. To use smaller timeframes, you need to upgrade to the Pro version or higher.
You can take advantage of the 30-day trial feature to test out all the tools. Check out the experience and see if it’s right for you. You should try it before deciding to upgrade to the Pro version. If your main purpose is to view charts, the free version also offers enough features.
Epilogue
Through this article on Forex Trading, hopefully, you have gained knowledge on how to use and perform Backtesting. Of course, the article cannot directly replace your actual experience. To become proficient in using tools, you should practice and learn more details through Forex Trading’s articles.
Frequently asked questions
What is a backtest?
What is a backtest? It is the process of verifying a specific trading strategy by applying it to historical data. It creates simulated past trades and aims to evaluate the effectiveness of that strategy.
What is MT4 backtesting?
This is a tool that helps evaluate the effectiveness of a specific strategy by applying it to historical market data. You can see if applying that strategy to past price history has brought good results or not.
Why choose to use MT4 for backtesting?
MT4 is used mainly for its ability to perform backtests. Backtesting helps determine the effectiveness of a specific trading strategy. It is capable of simulating trading positions on historical data. This can help traders evaluate the relative effectiveness of that strategy.
