The Optimized Portfolio Trap

We have talked about the dangers of optimizing trading systems (forcing trading systems

to conform to historical data), but, one of the subtler forms of optimization happens with portfolio selection. This happens when trading systems are only shown tested across a handful or a small number of markets (or sometimes just one market). The problem is that what is usually done is that most all the available markets get tested, and then only those that performed the best get shown in the portfolio. This is an enormous mistake, because the markets that performed best historically are rarely the ones that continue to be the best. What traders end up with is something that only worked well historically.

To avoid this tendency, we believe that the most robust way to see a system test is across ALL the available markets. Some will argue that different markets should be traded different ways, and to that we say NONSENSE. Markets are always changing, and a market that traded like market XYZ today will trade like market ZYX tomorrow. Unless a system is robust enough to trade every market, it is likely a useless curve fit of the data. For us in the commodities markets, we use test roughly 80 markets. There are over 100 commodity contracts that trade, but we do limit the selection to those that are liquid enough (have enough trading volume) to trade. Testing this way does cause one problem. The problem is that traders can be trading many markets in the same sector at a given time. Investors will need to have some sector risk control mechanisms in place. We like to be certain that the risk in a given sector does not exceed about 5% of the account equity. If someone creates a system that can successfully trade nearly EVERY commodity market and uses the same rules for each market and gets tested over a long period, he may be on to something. Just remember, the next time someone shows the results of a backtest ask him "How many markets does this test include?" If the answer (for commodities) is less than about 70 or 80, then be suspicious that this may be curve fit results. Once again, curve fitting tends to produce systems that ONLY perform well historically.

We test every trading system we make available across nearly every tradable commodity market. We could easily improve performance (historically) by only cherry picking the best markets, but we know this is misleading data. For more information about DH Trading Systems feel free to contact us.

The Optimized Portfolio Trap

By: Dean Hoffman

POST COMMENT

Cheap Skip Hire: Some Excellent Advice Serious Currency Dealers And Collectors Are The Ones Most Likely To See Returns On Old Coins Investm Trollbeads come in many different shapes Different False Beliefs On Skydiving And The Facts Behind Them Churrasco de Primeira para Comemorar o Dia do Gaúcho no Brasil Finding Discounted Copy Paper Aecor Expondrá El Marco Normativo Para Los Edificios Existentes En El Congreso Internacional De Rehabilitación Y Sostenibilidad 2010 Class action lawsuit for British Petroleum Laurentian Library - Florence Want to Cure Your Asthma for Good? – Weather-based Moxibustion 天灸療法 (A special Form of Moxibustion) might be an Option How To Choose Survival Kits Permanent cure Of Erectile dysfunction and Male Impotence Dica da DESENTUPIDORA ABAGI Curtiba. Como desentupir uma pia