This article is about the importance of testing forex strategies before you trade live with it.
There are many benefits to testing your forex strategies thoroughly before you use it. It will give you the confidence to enter your trades with a clear mind that the strategy is effective. It allows you to act when the market turns against you and know when to cut your losses.
Why Should You Test Your Forex Strategies
Developing and implementing a strategy that you feel comfortable with is an involved task. Once you have found the correct combination of suitable indicators and risk management that you feel comfortable trading with, you are half way there. All that is required is to test it to find out if you can use it repeatedly in future.
You need to test your strategy because it is not that easy to set one up. You should ensure that it works before you place your funds on the table and stand a chance of losing it.
The Testing Process
Your first testing step is to follow a set of rules. You can make use of a flow chart to indicate the steps. You should follow these rules exactly as they are laid out to ensure you are testing the system to its limits.
You have two options available regarding the account type you use for testing. You can make use of a demo account where you are using virtual money, or you can test in a live account with a small amount of test capital. The second method will also give you the opportunity to test your emotional level whilst trading with real money.
You could make use of both methods if you wish. If you are testing in a live system, you should commence with a single trade and slowly build up your trade sizes. You should bear in mind that the main focus of testing your forex strategies is to test the system, not how much profit or loss you make during that trading period.
After the Testing Period
Once you have thoroughly tested your strategy, the results should help you determine if your system is indeed a valid one or not. There are a few criteria for you to determine this.
Number of Trades
The number of trades you entered should show you if the system is valid or not. If you have a high level of entered trades, it will indicate how the system performed over an extended period.
Time of Trades
This will indicate how long the trade remained in the market. This is important if you are a short term trader and the trades took a longer period of time than you prefer. You may want to go back to the drawing board and adjust your system to fall in line with your trading time preference.
Profit or Loss
You need to view the level of return you received during your trades. If you have shown a profit it does not mean that you will show a profit all the time when you use your strategy. Many traders stop when they reach a profitable level with their strategy. You have to consider the risks you took to reach your profit level.
You need to determine how many consecutive losses you endured during the testing phase. This will be important if you intend doing trend trading as your profits depend on a specific number of trades.
It is vital that you test all strategies before you implement it. It will provide you with an idea of what to expect when your system goes live.