SCOTT WELSH TRADING BLOG

What is a “Simple Trading Strategy”?

What is a “Simple Trading Strategy”?

Oct. 30, 2019

Everywhere I look, I’m told that we need to trade “simple trading strategies.”

Of course, that sounds like good advice.

Simple is better!

But what does that mean exactly?

And does it work?

If we look at other parts of our lives, it does seem like there is merit to keeping it simple.

Take diets, for example.

A new, complicated diet with fancy theories and impressive testimonials appears good at first.

Eating slightly-chilled acai berries and Norwegian granola clusters gives the impression of effectiveness.

But, of course, there are problems.

Acai berries at Whole Foods are kind of expensive and Norwegian granola clusters are hard to get because they’re only made in China.

Plus, it kind of upsets your stomach in the moment and leaves you famished by the end of the day.

It’s not feasible or fun.

It’s too complicated to be sustainable–if it even works in the first place.

It can be the same for trading systems.

A system with lots of rules actually gets more fragile over time.

The market is always changing, we know that.

To backtest for a specific condition over a small period of time is dangerous if the market switches. When the market does switch, sometimes more rules are added to account for current conditions. Then, after another market switch, more rules are added on top of all the previous ones to try to catch up.

A system like this is constantly trying to catch up to what’s happening now.

We lose, and add more rules. Then we lose and add even more. At this point, we’ve suffered a lot of losing and have a ton of layers that might be rendered obsolete again during the next market switch.

Or, worse, we start out with a ton of rules to try to account for each circumstance, and then start losing as soon as we turn it on.

Why do we lose as soon as we turn it on? Because all our rules are for one specific time period. We had a beautiful backtest for 2008, for example, and the 2008 environment hasn’t existed in over ten years.

See the problem? To get a great backtest, we need to have a lot of rules and filters to allow us to win all the time. But it’s those same rules and filters that make our system ineffective in a new market.

It’s like a new restaurant that has a bunch of people named Mike visit the first few weeks. The owner decides to make engraved name cards with Mike on them to provide an awesome customer experience. But then a bunch of Edwards come in, so they make new cards with Edward on them. The next week, Susie and Mary become common, and so on. Continuing to make new rules with every change will be expensive and probably pointless.

Instead, our restaurant owner could have just one rule, “Treat everyone nicely.”

Sure, Mike will be mad he doesn’t get a name tag but, overall, it’s a strategy that will hold up nicely over time.

Have a simple rule or two that will work forever. Yes, the system will lose in a very specific occurrence, but it will do excellently over time. It will be “robust”.

We won’t have to worry about a simple system becoming over-optimized or obsolete. It’s not made for any one market, so it will work okay on all markets.

That’s the theory behind simple systems.

It makes sense.

But does it actually work?

We’ll take a look at some some simple systems in our emails the rest of the week.

Talk to you soon.

 

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Disclaimer:
It should not be assumed that the methods, techniques, or indicators presented in these products will be profitable or that they will not result in losses. Past results are not necessarily indicative of future results. Examples presented on these sites are for educational purposes only. These set-ups are not solicitations of any order to buy or sell. The authors, the publisher, and all affiliates assume no responsibility for your trading results. There is a high degree of risk in trading.

HYPOTHETICAL OR SIMULATED PERFORMANCE RESULTS HAVE CERTAIN INHERENT LIMITATIONS. UNLIKE AN ACTUAL PERFORMANCE RECORD, SIMULATED RESULTS DO NOT REPRESENT ACTUAL TRADING. ALSO, SINCE THE TRADES HAVE NOT ACTUALLY BEEN EXECUTED, THE RESULTS MAY HAVE UNDER- OR OVER-COMPENSATED FOR THE IMPACT, IF ANY, OF CERTAIN MARKET FACTORS, SUCH AS LACK OF LIQUIDITY. SIMULATED TRADING PROGRAMS IN GENERAL ARE ALSO SUBJECT TO THE FACT THAT THEY ARE DESIGNED WITH THE BENEFIT OF HINDSIGHT. NO REPRESENTATION IS BEING MADE THAT ANY ACCOUNT WILL OR IS LIKELY TO ACHIEVE PROFITS OR LOSSES SIMILAR TO THOSE SHOWN.