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Achieving Balance in PortSim 50/50
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OmniTrader Upgrade Forums
OmniTrader General Discussion
Achieving Balance in PortSim 50/50
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Last Activity 12/30/2024 1:50 PM 0 replies, 421 viewings |
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Frank Birch Regular  Posts: 84 Joined: 12/29/2003 Location: UK  User Profile |
Enjoy. Introduction Portfolio simulation is a vital aspect of algorithmic trading and investment strategies. It involves testing and refining trading strategies to ensure they perform well in real-world scenarios. One of the key decisions in this process is determining the allocation between back testing (BT) and out-of-sample (FT) data. While conventional wisdom often suggests allocations such as 70/30 or 80/20 in favor of BT data, I have found success with a different approach—using a 50/50 BT/FT allocation. This document explores my thoughts and process in adopting this unique allocation strategy. The Role of Back testing and Out-of-Sample Data Before delving into the 50/50 BT/FT allocation, it's essential to understand the purpose of back testing and out-of-sample data in portfolio simulation. Back testing (BT): BT data is used to develop and optimize a trading strategy. It involves testing a strategy on historical data to understand how it would have performed in the past. The goal is to refine and improve the strategy by learning from past market conditions. Out-of-Sample (FT): FT data is crucial for validating the trading strategy's performance on unseen data. It serves as a test of the strategy's robustness and ability to adapt to changing market conditions. An effective strategy should perform well in both BT and FT phases. Common BT/FT Allocations and Their Rationale Academic research and traditional practices often advocate for allocating a higher percentage of the data to BT. Ratios like 70/30 or 80/20 (BT/FT) are commonly recommended for several reasons: Optimization: A significant portion of BT data allows traders to fine-tune their strategy based on historical market behavior. This can help improve performance. Strategy Development: A substantial BT allocation permits the development of more complex strategies, which might not be practical with a limited amount of data. Risk Management: By focusing on historical data during the BT phase, traders can reduce the risk associated with implementing untested strategies in real-time markets. The Trade Frequency Dilemma One of the questions that arise with higher BT allocations is the potential for an excessive number of trades when the strategy is applied to real-time markets. If a strategy generates a large number of trades during the BT phase, it may not be feasible for actual implementation. My 50/50 BT/FT Approach My approach introduces an intriguing alternative to the conventional wisdom. I advocate for a 50/50 BT/FT allocation, aiming to strike a balance between the benefits of BT and FT while addressing the trade frequency concern. Advantages of the 50/50 BT/FT Approach Reducing Trade Frequency: A 50/50 BT/FT allocation mitigates the risk of generating an unrealistic number of trades during the BT phase. This can make the strategy more manageable and practical for real-world application. Balance Between Development and Validation: By evenly splitting the allocation, this approach ensures that the strategy is rigorously tested on unseen data while allowing for comprehensive strategy development. Practicality: The 50/50 approach makes it easier to assess how a strategy would perform in a real trading environment, without being overly reliant on historical data. Flexibility and Adaptability My approach highlights the importance of flexibility and adaptability in portfolio simulation and trading strategy development. There is no one-size-fits-all approach, and traders must tailor their strategies to align with their specific goals, risk tolerance, and market conditions. Conclusion In conclusion, the allocation between backtesting and out-of-sample data is a critical decision in portfolio simulation. While academic research often recommends higher allocations to BT data, I have found success with a 50/50 BT/FT approach, which balances strategy development and validation while addressing trade frequency concerns. This approach underscores the importance of adaptability and practicality in trading strategy development. Traders should evaluate their specific objectives and market conditions to determine the most suitable allocation for their portfolio simulation needs. In the dynamic world of financial markets, a willingness to think outside the box and adapt one's approach can be a valuable asset. My innovative 50/50 BT/FT allocation approach serves as a reminder that the world of trading is not strictly black and white. It is a world where adaptability, practicality, and balance are essential ingredients for success. As you navigate the complexities of portfolio simulation, consider how this unconventional approach may work for you and align with your unique trading goals and challenges. Regards Frank Birch |
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