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What Would You Rather Do: Read About Someone Elses Forex Success or Experience Your Own
from: David JenynsYou can draw some useful parallels between running a business
and Forex trading. For instance, most successful businesses keep
statistics on everything from their conversion rate, to their
average dollar sale, to the number of people that come in the
door. Businesses do this to keep on top of how they are doing on
a day-to-day basis and businesses must first take score before
begining to improve on that score. Using a Forex back testing
plan in your trading works exactly the same way.
Now that you`re looking at Forex trading as a business, you need
to learn some valuable statistics about your system so you can
improve it`s performance. You would use a Forex back testing
method. You can`t improve your system unless you have something
to measure it against. How could you expect to improve your
trading unless you knew what it was you were looking to improve?
You can discover these measurements and other valuable
information about your trading system, by using a Forex back
testing plan.
There are two ways that you can use a Forex back testing plan to
back test a system. You can do it manually, which can be a
drawn-out and labour-intensive process, or you can do it with
the aid of some software packages. Unfortunately, I recommend
you do it by hand when you first start out. You`ll get a much
better feel for your system, and you`ll understand exactly how
using a Forex back testing plan works in all its intricacies.
Once you have the Forex back testing plan and the in-depth
knowledge, you could look at finding a software package that
does it for you.
There are a few major statistics on your Forex back testing plan
that you need that you will uncover through back testing. The
first statistic you need to become familiar with is the R
multiple principal. R stands for risk, the risk you take on any
trade when you enter the market. The R multiple of a trade is
the ratio of the profit or loss compared to the amount of money
risked to make the profit or loss.
Therefore, if you risk $200 dollars in your initial purchase,
and you make a profit of $1,000, you have made five times the
amount you risked in the trade. You have an R multiple of five.
This statistic gives you a good idea of the relative size of
your profits to your losses. You can compare the average size of
your winning trades with the average size of your losing trades.
The next statistic you`ll find useful is your win to loss ratio.
This is how many times you get a winning trade in proportion to
how many times you get a losing trade. For example, if you had
ten trades, four of those trades were winners, and six were
losers, your win to loss ratio is simply four to six. This is
your hit rate; you`ll get 40% of your trades correct.
With these two simple statistics, you can calculate the average
size of your profits and of your losses, multiply these figures
with your win to loss ratio, and calculate on average how much
money you make with every dollar you risk.
For those of you who think this sounds like a too much work,
particularly using a Forex back testing plan that you need to do
to uncover these statistics, consider this scenario: Imagine
yourself trading a system that you knew had a win to loss ratio
of 60/40. You made profit on every six trades and lost one out
of every four. How do you think you would feel, where would your
confidence level be, after you traded the system for a little
while and you received a string of 11 losses in a row?
Now, you know that this system has a win to loss ratio of six to
four. Would you have the confidence to open another trade if
your system brought up another buy signal after getting 11
trades wrong?
Unless you use Forex back testing plan to back tested your
system, I doubt that your confidence level will remain high.
That trading system may be a fantastic profitable system.
However, since you didn`t use your Forex back testing plan to
back test it, you don`t know that historically this system
received up to 13 losses in a row, but was still profitable.
Here`s another point you may not have picked up unless you used
your Forex back testing plan. Once you`ve set your money
management rules and you begin to trade, you will likely
experience a string of losses. Countless times, I`ve had clients
who get disheartened by this fact because they don`t understand
the nature of setting good management. If you`re adhering to the
rules of cutting your losses short and letting your profits run,
because you`re cutting your losses short, those trades are going
to last for a shorter amount of time.
This means once you begin trading the odds of getting losses
early in the game are much higher than getting a winning trade.
This is particularly true when you consider that many successful
trading systems run on a 40/60 win to loss ratio. However, you
will never know the intricacies of your system unless you use a
Forex back testing plan and back test it.
Using a Forex back testing plan, will help you to understand
what works and what doesn`t. It will give you the statistics to
gauge the effectiveness of your trades. It fills in your
scorecard, and allows you to make improvements. But, you
shouldn`t simply believe everything I`ve told you. Instead, you
need to prove it to yourself by using some Forex back testing
plans and back test your system.
About the author:
Discover BIG profits from the market by downloading your FREE
copy of David's new Ultimate Forex Trading Systems course.
www.ultimate-trading-systems.com/forex.html
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