10th Feb 2012 - inside bar backtest 2001-2009

I've spent most of this week researching and backtesting. 90% of successful trading is psychological. No matter what strategy you use, if you don't have confidence in your setup, you will fail. The best way of building confidence is to do your own research and backtesting. Manual backtests are very time-intensive but it gives you a better idea of a strategy than automating your backtest.

This week I decided to extend my backtests of inside bars from the start of 2001 to mid-2009. I focused on the EURUSD on the daily timeframe and used a 21 EMA to measure the trend.

RESULTS

Trading with the trend
156 trades initiated

Risk:reward ratio = 1:3
Expected return per trade = 28.21%

Risk:reward ratio = 1:2
Expected return per trade = 23.08%

Risk:reward ratio = 1:1
Expected return per trade = 15.38%

Trading against the trend
130 trades initiated

Risk:reward ratio = 1:3
Expected return per trade = 29.23%

Risk:reward ratio = 1:2
Expected return per trade = 20.00%

Risk:reward ratio = 1:1
Expected return per trade = 3.08%

CONCLUSION

I was quite surprised to see that counter-trend trading is just as profitable as trading with the trend. A 1:2 or 1:3 risk:reward ratio seems ideal, although I am leaning towards 1:2, just to be a little conservative. Higher rewards usually take longer to achieve. The longer you leave your trade open, the more exposed you are to market shocks that invalidate your entry.