Enhancing Strategy Stability in Live Trading

Once you’re able to develop a strategy that consistently generates profits both in the in-sample and out-sample backtesting period, the next step is to consider how to replicate this performance in live trading.

- Examining the Nature of the Strategy

For instance, if your strategy involves short-term trend following, has it consistently entered positions and made profits during the majority of past short-term trends? During extreme market conditions, losses within a manageable range are normal. Exiting positions prematurely before the completion of a trend is also a common occurrence.

Suppose your strategy is a short-term mean-reversion strategy without a directional bias. Has it been consistently profitable during periods of consolidation, slow-moving uptrend, and slow-moving downtrend in the past? Can it control losses within a certain range during extreme market conditions? Can it avoid entering positions during unfavorable market conditions?

If your strategy consistently enter and exit positions during targeted market conditions as expected both within and outside the backtesting period, it can effectively reduce the likelihood of overfitting and perform effectively in live trading.

- Increasing Trading Frequency and Diversifying Trading Instruments

Key factors in achieving stable profits in long-term trading are probability and statistical concepts like expected value, the law of large numbers, and correlation. When we have a trading idea with a positive expected return, we can increase the strategy’s trading frequency to bring its returns closer to the expected value. Moreover, applying trading ideas across different assets can create portfolios with low inter-strategy correlations, complementing each other and further enhancing trading frequency. This, in turn, improves the returns per unit of risk for the investment portfolio.

There are many differences between theory and reality in trading. The accumulation of a lot of practical experience will be the most useful help on the road to progress.