The basic idea is simple. I only want to trade in the direction of the trend and only when there is a "strong" trend. I want to exit trades when the trend is done or stalling. Recognizing trends can be done in many ways. To keep things simple so that I can always manually verify signals I choose to implement an algo with 3 Simple Moving Averages. I believe this is a pretty common way for traders to look at the market. All I wanted to add to this is to have a market screening app that gives my signals when trade opportunities present themselves. I will then look at the opportunities and decide to act upon them or not. So there will be no automated trading here.
The rules for the screening are:
- if price is above the long term moving average, we will only look for long trades
- then if the short term moving average crosses up over the midterm moving average, we will buy on the next day open.
- and when the short term moving average crosses down over the midterm moving average, we will exit the long position on the next day open.
And in reverse:
- if price is below the long term moving average, we will only trade short (which is easy to do with Plus500's CFDs)
- then if the short term moving average crosses down over the midterm moving average, we will sell on the next day open.
- and when the short term moving average crosses up again over the midterm moving average, we will exit the long position on the next day open.
I backtested this strategy with the most commonly used movingaverages, like the 200 and 150 day moving average for the long term, 20 and 50 for the mid term and a range from 3 day to 14 day for the short term moving average. It took a couple of hours to run through all the backtests, but then I ended up with a list of tickers with combination of moving averages and a ranking based on how well the performance was in the past 2 years.
Then I filtered this list to show only combinations that had a substantial amount of trades and a sharpe of above 2.
Here are my results for the Yahoo tickerlist.
M1, m2 and m3 are the short, mid and long term simple moving averages, that gave optimum results, but I noticed that all the commonly used combinations of MAs gave more or less the same results. The screening therefore merely filters out which tickers have been doing well with this algo for the past 2 years. The idea is that many of them will continue to perform with this algo the coming year; many but not all. We will need to create a new ranking every month or every quarter to adjust to the markets. And if we implement proper money management we might have an edge be profitable trading this way.
If all goes well I intend to trade this way on a live account at plus500.com and on a "normal" brokerage account trading options.