In the case of a trading strategy in the stock market, backtesting is a standard technique that can aid in mitigating risks and ensure the prediction of a good chance of earning a profit.
Generally, the backtesting technique examines the performance of a trading strategy or model using historical data and comparing them with recent data to determine its practicability. All this without putting in real money. In case the strategy works, then it could be used for actual trading.
Deploying of backtesting techniques could be done manually or automated using charting platforms and software.
For backtesting manually, an individual would be required to select the segment, which could be equity or index and select the appropriate time frame.
With historical charts, try to collate data related to buy and sell signals and note down entry, exit and stop-loss. After this, look out for the success rate of the strategy and how many times stop-loss hits.
On the other hand, for automated backtesting, a trader is required to choose software and feed the historical data, including relevant financial assets and periods, in coding language. This is followed by setting the parameters of the trading strategy, which can be initial capital, size of the portfolio, benchmark, profit level, and stop-loss instructions, among others. This is followed by selecting the run backtesting. Within a couple of minutes, the software would display the results of backtesting.
Along with the backtesting technique, a trader could also look at other parameters to ensure the viability of a particular trading strategy.
Rajiv is an independent editorial consultant for the last decade. Prior to this, he worked as a full-time journalist associated with various prominent print media houses. In his spare time, he loves to paint on canvas.