Ciao a Tutti,
today I’m showing the result of an edge ratio analysis I performed on the “PotenzaFX Groups” indicator. I’m showing the results of this analysis in the charts below (the vertical line is number of pips, but please note these are not equity curves) and then I will explain what this analysis means and how it was performed.
You can consider the edge ratio analysis as one of the “Ideas For Winning Strategies“. As traders we often look to new tools and indicators for technical analysis and we are prone to consider them as holy grails for out trading business. Indeed our eyes often tend to give more value to the big winning trades signalled by indicators and at the same time to overlook the importance of many losing trades. Just think for a moment to the most classic and simplest trading system (the crossover of moving averages) and you’ll understand what I mean.
The point is that we may spend time implementing a trading strategy based on a new indicator while we are not sure at all that this indicator really gives an edge over the market. Doing so in most cases we are simply wasting our time.
We’ve already shown some ideas about how to use the “PotenzaFX Groups” indicator effectively. I refer to the following two posts:
In this post I’m not suggesting a new trading strategy, but only showing a statistical proof that “Groups” has indeed an edge over the market. The edge ratio analysis consists in evaluating how much price moves in favor of a trade (MFE = maximum favorable excursion) and how much it moves against the trade (MAE = maximum adverse excursion) when the indicator signals a new entry.
Since Groups’ values go from -100 to +100, I’ve set -20 and +20 (a threshold that is 10% of the full range) as values for deciding short and long entries. When a candle closes with Groups <= -20 a short trade is opened at the beginning of the next candle. When a candle closes with Groups >= +20 a long trade is opened at the beginning of the next candle. After a trade is opened we measure MFE and MAE (as number of pips) until the next trade in the opposite direction is signalled.
I performed the edge ratio analysis on daily charts during 2011. A the beginning of 2011 we had the following groups of currencies:
- Group 1: AUD, EUR, GBP, NZD
- Group 2: JPY, USD
- Group 3: CAD, CHF
The Groups indicator is effective in trading Group 1 versus Group 2. Therefore I performed the analysis on 8 currency pairs: AUDUSD, AUDJPY, EURUSD, EURJPY, GBPUSD, GBPJPY, NZDUSD, and ZNDJPY.
For each of the 8 pairs I’ve analyzed the cumulative sum of (MFE-MAE) during the whole year 2011. Of course the bigger this sum the better, because it means that after a trade is signalled price tends to move in our favor more than it goes against us. Each pair showed a sensibly positive sum at the end of the year (about 3 thousand pips on average). The charts at the beginning of this post show exactly the cumulative sum of (MFE-MAE) for each pair. You can notice the pairs involving JPY have the best potential, while EURUSD and GBPUSD are the most difficult pairs to trade with Groups. Given these results we can say that Groups is a good indicator for building a winning trading strategy.
The chart below shows a sum of the edge ratio analysis across all pairs (the vertical line is number of pips):
We are currently testing an EA that exploits the “PotenzaFX Groups” indicator. The basic strategy works with a DLS (Dynamic Lot Sizing) approach, the same way as the “PotenzaFX DLS Trader” does. Another strategy uses fixed lot size, SL, and TP. We may add other strategies into this EA while we progress in our analysis of the Groups indicator and receive suggestions from our fellow traders 😉 I don’t know when this EA will be ready for a public release, but I believe it will not take much time. Stay tuned 😉