Every futures trader has a system. In fact, when you trade there will always be another trader on the other side of your trade who is expecting to make money using a directly opposite system. So how do you effectively evaluate a system to gauge its usability and work-ability, particularly if you’re going to plunk your money down and buy it? Set up a test following these guidelines to evaluate the trading system.
- In setting up the test you need a minimum of 50 trades to effectively evaluate a system. To validate the charting approach you also need a minimum of 50 ticks (overall market trades) in a bar.
- Compute the average profit per trade, the average loss, and the percentage of wins and losses.
- To prevent the random lucky trade factor from skewing your test results, the largest winning trade should not exceed 50% of the gross profit or 25% of the net profit.
- Check the expectancy ratio of your approach. It must exceed 2:1 with a 50% probability factor or you will lose money from variable and fixed costs.
- If the winning percentage is less than 50% but makes money, you’ll have to take a cold, hard look at your trading mentality. If, psychologically, you can handle a 50% loss factor, this system might work for you. If you don’t think you can maintain faith in a system where you lose one out of every two trades, keep looking. Know yourself and what it takes to maintain your motivation.
- Ask yourself whether the system jives with your trading mentality. Does it give you confidence or lead to second guessing? Trading is 90% mental confidence. As the Market Wizards say: You trade your beliefs about the market. To make it as a futures trader, you have to believe in yourself and believe in your system.
- Rate the system against other types of investments. Look for the system with the best internal rate of return at the least risk. A useful trading system will produce, at minimum, four times the return of a low risk investment such as T-bills.
Click here to find out how my Futures Trading Secrets Course stacks up against other systems.
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