Forex Trading Systems
The Thing Everyone Seems to Forget
Perhaps the heading is too harsh. Everyone doesnít forget it, but a lot seem to. Iím talking about the fact that the trading system must make sense. It seems that everyone is so it computer testing that common sense has fallen by the way side.
Why would you take a trade when a triangulated moving average is diverging with a MACD while an ADX is rising? Does that make sense? So what if the computer says it should be profitable. It wonít be for long.
You see the market is dynamic. In other words, itís changing. Itís not constant. Just because the computer found something weird in the past that wouldíve been profitable, doesnít mean that it will continue to be so. The only way to guard against that is to have a system that not only stands up to computer back tests, but also makes sense.
For example as prices trend, they move in a stair step like fashion. A system that uses some indicators to take advantage of this (provided it also backtests well) will continue to work for decades. Why? Because it makes sense. It takes advantage of a constant of the market.
Sure, to insure the longevity of a system, it must make sense. However, computer backtesting is still necessary. You see, even though the system may make sense, the system may still need fine tuning. The stops might be too tight. This is what the computer backtest is for. It is to determine if the details are right. Thatís it. This isnít where you should be making the guts of the system. First figure out a general market pattern (e.g. breakout after consolidation), then use computer backtesting to get the details right. After that, itís time to test if forward.
Backtesting can only go so far. There are a lot of problems inherent with it. So you need to test live. In other words, itís time to paper trade. Paper trading gets you to go through the mechanics of placing a trade with your system. Thatís important as it will reveal flaws that have got this far in the system before you start placing money on it.
How many pretend trades should you place before youíre confident that everything is working well? Between fifty and two hundred. With that amount you are on firm footing statistically. A system that makes sense, is profitable in a computer backtest, and also profitable in one hundred paper trades, is on very firm footing.
Building a Winning System
Building a winning trading system is just following the steps. First, decide on a market pattern that makes sense. Second, backtest it to get the details right. Lastly, test it forward on paper.
The downside is that it takes a lot of time. And the computer program to do the backtest can be very expensive. (For example, the excellent program Trading Blox is $2990.00)
Using a Commercial System
So what if you just want to save time and use a ready made trading system? There are plenty of ebooks and the like that promise you that you will be trading successfully if you just purchase their product.
First let me make a point that there are some excellent forex systems for sale. There are also some that are a total waste of money. How do you tell which is which? Trust your gut. Does something seem wrong about the sales pitch? Does the seller seem sincere? You can tell. Don't make a snap decision to buy. Think about if for several days. That is the absolute best way to gauge whether or not to buy.
I've bought a system that almost cost $1000. I've also bought systems for $30. You know, the expensive system was worthless. Talking to other traders, they too concur that the pricy systems just don't live up to their promises like many of the inexpensively priced ones. (Backwards, it's it?)
Lastly, what about too many people using a system? Will it lose it effectiveness? Yes and no.
Yes, it will lose its efectiveness if the system doesn't pass the first rule and make sense. However, if the system is sound (i.e. it makes sense and is based on solid, constant market patterns), then no, it will not lose its ability to make profit.
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