Why is Backtesting Important For Your Trading Portfolio?

Experienced traders are made and not born, and most successful traders who made their wealth today came after a series of learning, testing, and enhancing their trading portfolio.

Advanced technology allows experienced traders to make trade predictions that highly favor their business—backtesting software steps in to eliminate the trial and error procedures and provide reliable and accurate results. Prospective traders can also invest in knowledgeable forex brokers like United Kingdom brokers with years of experience mastery in trading strategy and portfolio backtesting. 

However, with the robust technology we have today, a trader may shorten this period by using backtesting software and save years of trial and error.

This process is called portfolio backtesting, and it is becoming increasingly popular and important for today’s traders to test and improve their trading strategy. We are going to discuss what backtesting is so you can optimise your strategy.

Understanding Portfolio Backtesting

Backtesting implies evaluating the effectiveness of your trading portfolio based on previous market inputs and running the software to see what results you would have made using these strategies.

Portfolio backtesting relies on the fact that tradable products have investing cycles that repeat themselves, and what happened before might happen again in the future. Another standpoint is that it is better to test your strategy using actual market info than just a simulation, and what’s better than real old market data?

There are several programs that assist traders in backstating their portfolio, showing the gains and losses they would have seen, assessing the risk level in their portfolio, and recommending strategy changes to fit the trading model.

Why Backtest Your Portfolio

When you backtest your portfolio using software, you find drawbacks in your portfolio or trading model without taking risks in the current market. Therefore, you have the time and ability to improve your portfolio before investing in real-time markets.

Additionally, you can simulate what securities respond better to your strategy. Some backtesting platforms may recommend a specific product allocation for a better outcome or analyse your risk level based on a given risk tolerance. 

How to Backtest Your Portfolio?

You can either program a backtesting software if you have adequate programming knowledge or teams to develop your own platform. This way may sound better because you can add the features and tools you want to use and include data you want to run with the test.

However, its major drawback is that it needs sophisticated programming knowledge. If you do not have an in-house programming team, you will need to hire and onboard new team members and spend significant time designing the backtesting software.

On the other hand, you can purchase ready-to-use backtesting software that does not require any manual coding or programming. This white-label software only needs your brand name, adding ready features and integrations with your systems.

The benefits of using ready backtesting software are saving time to build and program it yourself, besides getting ongoing technical support from the provider. 

The only downside is that it might cost you more money than doing it yourself, but if you can convert these expenses to profitable and tested trading strategies, then the money is not wasted.

Portfolio Backtesting: Step By Step

Using algorithms and automated software has become common, and some traders include it in their daily routine. If you are new to using automation in trading, here is how you can backtest your portfolio.

1. Search for a trading platform that includes automation or backtesting software in their offerings.
2. Select your trading strategy. Whether you are a swing trader, a day trader, or a scalper, you can choose your trading model.
3. Add technical indicators and analysis tools to simulate the signals you receive from market actions.
4. Select action points in your portfolio like stop-loss/take-profit actions, entry/exit points, or other decisions that are triggered when certain condition(s) are met.
5. Choose the asset classes you want to backtest your software, whether you want to trade stocks, bonds, ETFs, or other tradable instruments.

Conclusion

Portfolio backtesting is a trial-and-error tool without risking your money in current trading markets and entails applying your knowledge and trading strategies to historical market conditions.

This way, you can find gaps and weaknesses in your trading portfolio and strengthen your advantages. Your backtesting software may analyse your risk level and securities that fit your portfolio or suggest strategy enhancements to improve your chances of success in trading.