If you look at any currency trading system that is sold or one you back test then you will notice a startling fact – Over 95% of systems that work in back testing, fail to translate this success when trading for real in the forex markets.
This article is all about why and how you can back test and translate the back tested currency trading success into real time success.
Currency trading systems that work in back testing, which fail to work going forward in real time normally lose due to “curve fitting” or bending of the system rules to the data.
When you are back testing ANY system the temptation is their to “curve fit” the trading signals to make the system more profitable and many traders do this without even thinking about it.
So what actually is curve fitting?
Curve fitting involves tweaking rules and parameters so that they fit the data, making the trading system profitable.
A neat way to summarize curve fitting is:
Imagine shooting at a barn door, a then afterwards getting a chalk and drawing a bulls-eye around everyone!
In forex trading, traders try and get or improve profitability by adding unique rules and parameters, for different market conditions and different currencies and bending the system to fit the data.
Of course, the forex market will move differently in the future and you can’t bend going forward so, the system collapses in the brutal world of real time trading and losses.
If a system is based on sound logic, it should work regardless of the market conditions or the currencies traded.
Furthermore, the more elements or rules you put into a system, the more likely it is to break – you may think you are improving its profitability, but really all you are doing is increasing the odds of failure.
It’s a fact that most of the world’s top trading systems consist of just a few rules or parameters and these will work across ALL currencies.
When back testing a currency trading system, keep it simple.
Don’t be tempted to try and improve your trading signals with extra rules or parameters – the extra profitability is simply an illusion.
Just use a few parameters or rules, for all types of trading conditions and all the currencies you trade. You may not have optimum performance in simulation compared to a curve fitted forex trading system, but you will beat it hands down in the real world.
Don’t look for perfection look at the chances of making forex profits.
So now you know why those currency trading systems you see sold on the net, more often than not fail in real time trading.
Also, if you have devised a system yourself and scratched your head when it nose dived in real time trading, you know the answer and the danger of curve fitting.
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