Manual or systematic analysis of the past performance of a trading strategy or concept is known as backtesting. By backtesting the strategy manually or by using backtesting software, a trader can determine whether the strategy is most likely a waste of time and money or if it shows promise and profitability across a variety of markets.
This theory suggests that any strategy that has worked well in the past is likely to continue to work well, while strategies that have performed poorly in the past are likely to fail in the future. This article will further explain what backtesting is and how it works, why you need it and provide you with resources and tools to learn to backtest your automated trading.
The advantage of algorithmic trading compared with other investment classes is that we can more reliably predict future performance based on past performance because we have an abundance of data. Backtesting is the method through which this is accomplished.
Using backtesting, traders and analysts can assess the viability of a strategy by seeing how it would operate on historical data. If backtesting succeeds, traders and analysts will be confident in implementing it in the future. In some cases, you might find that you have lost money by the results of your backtesting. If that is the case, you might need to change your trading strategy.
Backtesting is an excellent way to provide valuable statistical information about a given system. Some universal backtesting statistics are:
Backtesting is an important tool if you are looking into gaining an edge with your automated trading. When interpreted correctly, backtesting can help traders optimize and improve their strategies, find any flaws in terms of technical or theoretical aspects of their strategies, and gain confidence before applying the strategies to the real world.
There are plenty of resources and tools out there to help you backtest your trading strategy right now. Here is a short list of some tools that can help:
We have also created a backtesting document that gives a more in-depth explanation and some more resources and tools that can help your automated trading process run more smoothly.