We could see a bounce soon — Here’s why…
The market sold off fairly hard today, managing to erase
the gains made on Friday. Volume wasn’t high, though, so that is a small
positive. The S&P 500 is back near its 50-day moving average and recent price
supports. Some sectors, such and Retail and Semiconductors are beginning to
become short-term oversold and could bounce. Energy has been leading to the
upside with gold and utilities also fairing well recently.
With the TradestationWorld Conference coming up in a week
and a half, I though I would discuss an important point regarding trading system
performance analysis. While many people understand the importance of having a
significant history to test with, they focus more on summary statistics and less
on consistency when doing evaluation. The last 5-10 years of market history
have provided us with every kind of market to test with — bull, bear, and
sideways. To see that a system has performed well over its test history means
more than just looking at summary statistics. Take for example a system I
recently played around with a little bit.
When I first ran performance on the system it looked fairly
promising. Vital statistics included the following:
Total # of Trades – 184
Percent Profitable Trades – 76.09%
Profit Factor (Gross Profits / Gross Losses *(-1)) – 3.12
Total Profits – $24,222
When taking a closer look at the performance though, I got
a much better idea of the effectiveness of the system. By looking at the
returns by year I saw the following numbers.
1998 – $5,728
1999 – $4,653
2000 – $7,124
2001 – $2,113
2002 – -$67
2003 – $2,540
2004 – $742
2005 – $1,387
What strikes my eye here is that over 72% of the gains came
in the 1st three years of testing. The market was undergoing a
runaway bull move at this point. Since then this system has struggled to
scratch out gains. What looked very promising on the surface is really just
mediocre. Don’t underestimate the importance of consistency.
Would I ever consider trading this system? Perhaps, but
only if I felt we were entering a runaway bull market. At this point in time,
though it simply gets filed away.
When evaluating a mechanical trading system, make sure you
check out the periodical returns as well. Otherwise, you may be disappointed to
realize that what was once a tradable idea, just doesn’t work anymore.
Best of luck with your trading,
Rob
Rob Hanna is the principal of a money
management firm located in Massachusetts. He has spent the last several years
developing and refining methods for trading in stocks across multiple time
frames. He selects stocks using both fundamental and technical criteria, and
then trades them using technical analysis techniques.