Trading is basically opening the transactions for the price increase or decrease. But to do it efficiently, you need a few things. One of such things is a reliable trading strategy. There are plenty of strategies available but how to decide which one is good for you? Read today’s article and you will learn how to test a trading strategy.
A trading strategy needs to be tested
Different trading strategies may work for different people. One strategy may cause you loss after loss while the other may bring you profit. That is why it is so significant to conduct testing.
You need to discover which strategy has the potential to be a winning one. Moreover, without testing, you will not know why you are losing money. With good testing, you will identify the reason standing behind what is happening and you will get the chance to improve your performance.
If you lose 1% of the capital with a particular strategy, you may think it is not a lot and keep using it. However, if it turns out not to be a good strategy for you, eventually, you will lose all your money. What you have to do is to catch as fast as possible what goes wrong and modify the strategy or change it completely.
How to test a trading strategy?
When you test a strategy you get to grasp its winning expectancy. The Winning expectancy tells you what is the average result of transactions with your losses.
For instance, a strategy you are using provides 75% of winning transactions. A Win Ratio is winning trades divided by the total amount of trades. So if there were 100 trades made, it is 75/100 = 75%. On the other hand, a Loss Ratio is 25% (100% – 75% = 25%).
An average payout is 80 so an average winning trade is 80% of the invested amount and the average loss is 100%. This gives us a Reward to Risk Ratio at the level of 0.8. (0.8 / 1.0 = 0.8).
With this data, we can calculate the winning expectancy which is Reward to Risk Ratio multiplied by Win Ratio less Loss Ratio.
Reward to Risk Ratio x Win Ratio – Loss Ratio = Expectancy Ratio
In the above case, it would be 0.8 x 75% – 25% = 0.35
Winning expectancy results
You know how to calculate the winning expectancy. Now you have to learn how to interpret the results.
A good trading strategy should have a winning expectancy higher than 0. It gives you a pretty good chance to make winning trades with it.
The winning expectancy equal to 0 means there is something that must be modified as it can earn you profit as well as a loss.
And the winning expectancy below 0 gives you information that it is better not to trade with this particular strategy as it is. Change something in it or change it completely.
These results are very individual. I have mentioned in the beginning that different strategies can work in various ways for different people. Each of us is unique. Some traders prefer to start in the mornings, others in the evenings or the night. Everyone has a different trading style so do not compare the winning expectancy of a specific strategy with others. Do it alone and act on your own results.
The testing process
To proper test a trading strategy you must open multiple transactions. Only 10 opened positions will not tell you a lot. Consider at least 50 but you can use more.
- First, trade with the exact same strategy for a while.
- Make notes of your actions. Write down the results of your trades as well as the amounts you win or lose.
- Calculate your winning percentage.
- Define the average payout per winning transaction.
- Establish the winning expectancy.
- Interpret the results. Keep trading if the winning expectancy is higher than 0, adjust a strategy when it is 0 or below and test it again until the result is above 0.
I recommend using a spreadsheet as it will make all the processes of testing simpler. Keep your notes no matter the form to be able to look through them in the future and decide on the strategy you want to use.
Making testing more comfortable
You may now think okay, I will do the testing. But what if I lose all my money while I am doing it? You obviously do not want this. And here is the good news. Binomo offers its users a demo account. It is a free account you can open any time you want. You will receive $10,000 virtual cash but if you lose it, you can always recharge it.
The Binomo demo account comes with all the tools and indicators available on the real account. Thus you can test a strategy in a risk-free environment and once you establish a good strategy for you, you just shift to the live account.
Do not use a demo account only in the beginning. You can regularly come back there to test a new strategy or find out whether some modifications will improve your results.
Moreover, it is very simple to verify whether a certain strategy is working well for you or not. It is enough you look at the balance account. You had $10,000 when you have started. Do you have more or less? More means you are winning with this strategy, less means you experience more losses than winning trades.
The testing strategy is essential for your trading performance. I am sure with today’s article you will deal with this task. Do not stop testing even with good results. Mistakes happen and you can detect them fast if you keep track of your actions.
Also, remember there are no guarantees in trading. Even a reliable trading strategy may bring losses occasionally. So keep testing and find out what works well for you and what does not.
Go to the Binomo demo account and test your strategy now.
Best of luck!