There's a trading system that looks fantastic on paper. It's been tested thoroughly and the live trading has proven to be similar to the numbers on the spreadsheet. But the backtesting record for the data is a lot longer than the live trading record, and it's never been traded with large size. What do you do?
WHAT DO YOU DO?!?
First, you don't have to yell at me.
Second, I realize this is a defining moment. The moment where I go from looking at trading systems to actually trading them. And here's the thing: it's not easy to take that final step.
Nonetheless, let's say I'm looking at a system with these characteristics:
- It has data going back over 13 years.
- It has no losing years.
- It has an excellent profit to drawdown ratio (over 15:1).
- It has a high winning percentage.
- I personally know someone who traded this system for a year and made over 100% on his account.
- It passes all Walk-Forward tests with flying colors and Monte Carlo analysis shows that maximum drawdown going forward is likely to be within a reasonable range. In short, all predictive analysis is quite positive.
- It hasn't been optimized in any way for several years and the results have still been in line during this blind, walk-forward observational period.
What should I do?
Is it time to put big size on this system and go after it with guns blazing?
Or should I pass on it?
With those characteristics, it seems like the evidence is tilted in favor of going for it. But what are the counter-arguments?
- I've been told that backtesting never works the same as real life.
- This system is not currently traded on myfxbook.com, so therefore it can't be trusted.
- The data is probably curve-fitted.
- I've been told that automated systems don't actually work in real life.
- Just because the data looks good doesn't mean it's going to work that way going forward. What if it goes on a losing streak right when I start trading it?
Okay, I get that.
But aren't there arguments against those counter-arguments?
- It's true I've been told backtesting never works the same as real trading. But what if I personally know someone who backtested extensively and then had the real life results mirror the testing? What if that person's real life results were actually better than the testing?
- I do realize that myfxbook.com is an excellent resource. Does that mean that there are no fakers on myfxbook? I've heard that there are people with false results on that site. If there are fake results sprinkled among real results, then is myfxbook that much better of a resource than un-optimized spreadsheets and walk-forward observation?
- If no data has been optimized in 2 or more years, then is it logical to think it's curve-fit? Isn't curve-fitting when you test the data so much that it's perfect in the present moment, and then it starts failing miserably in real trading? If so, how do I explain the fact that two years of results haven't failed? Wouldn't they have failed in that period if they were curve-fit?
- Aren't there systematic portfolio managers who have been trading 100% automated systems for decades? If so, is it logical to say that automated trading doesn't work?
- It might fail in the future, that's true. But can't I say that about anything? Isn't it true my new car may not work tomorrow?
The best-case scenario for me would be to use a system that's been live-traded for several years with large trade sizes.
But what if I have all this data right now? Should I just sit idly by and wait for many years of results to roll in? Is the best course of action to stand aside for now and try to shoot holes in this trading idea with any ammunition I can find? That guarantees I won't lose money, but it also guarantees I won't make any money.
It's a tricky situation.
What should I do?
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