Presenting my brand spanking new "Daikoku" trading system

I've been quietly working on this trading system for a few weeks now. My first-round backtesting was finished today and the system is looking very profitable.

 

It's a low volatility breakout system, based on the weekly timeframe.

 

My backtest details:

 

Years tested: 2001 to mid 2012

Pairs tested: EURUSD, USDJPY, GBPUSD, AUDUSD, USDCAD, USDCHF, EURJPY, NZDUSD, GBPJPY, AUDJPY, NZDJPY

Timeframe: 1W

 

Sample trades collected: 403

Profit factor: 2.49

 

There are no indicators involved. I initially backtested using ATR to measure volatility, but didn't find it useful in this timeframe. I then merely measured changes in volatility by comparing the current week's range with the previous week. If it's less than 50%, we have an entry signal.

 

We look for entry signals over the weekend after the trading week is over. We then place pending orders that will last for all of next week.

 

Entry signal: At the close of the week, the week's range must be less than 50% of last week's range. On Monday morning when the markets open, we place a pending long at the high of the week + 1 pip, and a pending short on the low of the week - 1 pip. The orders should be set to expire at the end of next week.

 

Stop loss: If going long, the low of the week - 1 pip. If going short, the high of the week + 1 pip.

 

Take profit: 25% of your stop loss

 

Some people may raise their eye brows at the level of the take-profit. At this level, our reward-to-risk is 0.25:1, which is a little unconventional. But I cannot deny my backtest results. This is one of the best R:R ratios to use. All R:R ratios are profitable, but 0.25:1 R:R almost maximises my profit factor, up to 2.49, which I think is very good for a mechanical system with little optimisation.

 

Here's a graphical example of a trade:

 

 

Everything about this system is preliminary at the moment. I would like to further optimise but even at this stage, the system is tradable. My main concern is the relatively small sample size of 400 trades, although it has been tested 10+ years across all the majors and Yen crosses. The high profit factor makes this alluring.

Entry signal on NZDUSD, full-bodied candles

A low volatility candle appeared on the NZDUSD over the weekend. The NZDUSD is running into some resistance, so it will be interesting to see how this plays out.

Full-bodied candles

 

I'm currently backtesting a new system based on full-bodied candles. Essentially, the open and close of a full-bodied candle should occur within the top and bottom quarters of the candle. I'm building a database on the USDCHF which will also contain RSI(14), ATR(14) and ADX(14) values to see if there is any relationship between these variables and profitability.

 

I have noticed that full-bodied candles can be profitable when their range is between 100% and 150% of ATR(14), trading with the trend. The sample size was 100, from the USDCHF between 2001 and 2006. Our entry would be the break of the candle's high or low, and our stop loss would be the opposite end of the candle. With a 1.5-to-1 reward-to-risk, profit factor was 1.36, which is okay. The profit factor for all R:R ratios above 1 are also positive, so thus far this is looking promising. 

"Hermes" low volatility daily breakout system

Disclaimer: this system is not intended as financial advice. I'm purely posting this for feedback and discussion. As always, perform your own due diligence before trading.

 

I backtested this system back in August and made a few blog posts about it. I did some further work this week, testing a few more pairs and cleaning up my results.

 

I dub this system "Hermes". It is a low-volatility daily breakout sytem.

SUMMARY

System Type: Breakout
Trade frequency: 8 trades per month
Backtest sample size: 1203 trades
Pairs tested: EURUSD, AUDUSD, USDCAD, USDJPY, EURJPY, EURGBP, USDCHF, GBPUSD
Dates tested: 2001 to mid-2012
Reward-to-risk: 2
Win rate: 40.87%
Profit Factor (approximate after spread): 1.26
Grade: B

Equity Curve from 2001 to mid-2012 – $10,000 initial balance, 1% risk. 2 R:R

 

 

 

Profit factor from pairs tested (after spread):

 

 

SYSTEM DETAILS

 

System Type

 

Breakout

 

System Description

 

Look for a daily range that is half or less than ATR(14). Setup two pending orders in the next day to trade the break of the daily high and low.

 

To trade the break of the high, setup a pending long with entry = yesterday's high + 1 pip. To trade the break of the low, setup a pending short with entry = yesterday's low - 1 pip.

 

Stop loss will be situated at yesterday's low - 1 pip if going long, and ysterday's high + 1 pip if going short.

 

Rationale of System

 

A daily range < 50% of ATR(14) suggests one or more of the following:

 

a) Neutral traders have left the market for the day, standing by to re-enter when a trend (re-)establishes itself

b) The preceeding momentum has stalled, meaning trend-followers are closing their positions and/or the big money are accumulating positions for a trend reversal.

c) Traders in general have left the market, particularly during a holiday period (e.g. XMAS to NYE), but stand ready to flush the market with orders once they return.

 

All three scenarios increase the probability that a day of low volatility will be followed by high volatility, which is where we will make our profit. The daily high and low are good places to place our entries. We use a 1 pip buffer as volatility is currently very low.

 

We trade both the break of yesterday's high and low in the same day. Pending orders should only stand for 24 hours from the start of the new market day. This means that during some days, both our long and short will trigger. The first break may be an unsuccessful fake-out or stop-hunt, but with a 2:1 reward-to-risk, a successful second break will mean that we will still finish in profit.

 

We trade the top 8 liquid pairs. They are:

 

EURUSD

GBPUSD

AUDUSD

USDCAD

USDCHF

USDJPY

EURJPY

EURGBP

 

Indicators Used

 

Average True Range (14) to measure volatility.

 

Entry

 

Break of yesterday's high + 1 pip if long, and break of yesterday's low - 1 pip if short.

 

Stop Loss

 

If long, yesterday's low - 1 pip. If short, yesterday's high + 1 pip.

 

Take Profit

 

2R, where R = |entry point – SL|

 

Example Trade

 

 

Thoughts

 

- Sample size is good, around 1,200, across the top eight liquid pairs from 2001 to mid-2012. The  system seems robust enough.

 

- Some entry signals will occur across multiple pairs on the same day. I'm not sure of the best of trading this. My preference would be to trade no more than 4 signals simultaneously, so with 1% risk per trade, I'm risking 4% on the same day.

 

- During quiet periods and holidays (XMAS to NYE, Easter), you may receive a glut of entry signals as traders leave the market. I took care not to trade on Christmas and New Year's Day themselves, but the days surrounding these holidays will also be quiet and relatively illiquid. My backtest indicate that it's still profitable to trade during these periods, but the glut means your risk exposure may be higher if you trade all of them.

 

- I'd like to test this system on the 4H and weekly charts.

Entry signals on USDJPY

The USDJPY is flashing two entry signals over the weekend.

 

Signal #1. Friday's daily range is less than 50% of ATR(14). I'll be placing pending shorts and longs on the break of the high or low on Monday morning. 2:1 R:R.

 

Signal #2. ADX(14) has fallen below 18. The USDJPY has been ranging for some time, but it's not near the recent upper or lower fractals, so it may take a few more days to trigger an entry.

 

But take note of the three candles highlighted in yellow. Their range was less than 50% ATR(14) and would've provided a nice profit at 2:1 R:R. I traded the last highlighted candle and pocketed some profit before the day ended.

50% ATR backtest on GBPJPY

Good results from the GBPJPY backtest. Expectancy was 28.5% after spread. Sample size was 171 trades.

The next step is to collate the results from all five currency pairs I've tested, eliminate duplicated trades and create a composite equity curve.

50% ATR backtest on USDCAD

Below is the equity curve for the USDCAD from 2001 to mid-2012, using a 1.67:1 R:R ratio, 2% risk and a $10,000 initial balance.

This is from using my daily range < 50% ATR(14) breakout system. Expectancy was 24.1% after 123 sample trades, which is acceptable.

50% ATR backtest on AUDUSD

The result of the AUDUSD backtest is pretty bad. With a 2.5 reward-to-risk, expectancy was an unremarkable 1.43%.

However, if we reduce our reward to 1.67R, expectancy climbs to 10.88%. With a 1.67R reward, the expectancy for the USDJPY is 26.68%, and the EURUSD 31.15%.

The equity curves for 1.67R are below:

50% ATR backtest on USDJPY

I spent most of my Sunday backtesting the USDJPY with the system I described in the previous entry. Gathered around 250 sample trades from 2001 to mid-2012.

An equity curve is presented below, using 2.5 reward-to-risk and 2% risk per trade. This yielded a win% of 37.35% per trade, with an after-spread expectancy of 27.65%.