Forex backtesting software is a programme that uses historical data to recreate the behaviour of trades, and their reaction to a Forex trading strategy. The resulting data is used to measure and optimise the effectiveness of a given strategy, before applying it to real market conditions. Backtesting strategies work on the assumption that trades that have performed successfully in the past, will perform well in the future too. The concept of back testing has always been a fierce battle between computer power and common sense.
In 1980, backtesting of a Forex system was a pretty straightforward concept. Traders would make their conscientious trades on charts, making the position either to 'buy' or 'sell'. Then, they would manually write exhaustive notes of their trade results in a log. Most of the trade ideas came from a profound understanding of fundamental analysis, or the awareness of market patterns. In the 1990s, a person was considered an 'investing innovator' if they were able to display data on a computer monitor.
The electronic process that allows us to check results online and gain confidence in our strategy today used to take months, even years, in the past. However, technological advancements have simplified the entire process for us. Since then, the process has continued to advance, but not always for the better. Those who apply diligence and common sense to backtesting trading strategies in Forex are usually in a better position to be rewarded with tremendous gains. On the other hand, traders who only apply computing power and leave human logic out of the picture are likely to suffer huge losses. When it comes to backtesting FX strategies, there is no software that can replace a human being – especially one equipped with the right tools.
The definition of a backtesting application is a set of technical rules, applied to a set of historical price data, and subsequent analysis of the returns that a particular Forex strategy would have generated over a specific period of time. Traders are able to determine through back testing whether their chosen strategies or Forex signals will be able to provide them the expected returns or not.
Forex trading strategies are applied to a set of price data, and trades are reconstructed using that data. The key performance metrics of the overall performance strategy are estimated. This data can be used by traders to ascertain any unforeseen flaws in their current strategies. Alternatively, new strategies can also be tested before using them in the live markets.
Depending on the type of backtesting software used in Forex trading, traders can get a wide range of indicators, such as:
All these metrics provide you with insights about how your Forex trading strategies are performing.
The best backtesting software in Forex depends on certain variables that can affect the outcome of the entire process. You should be aware of the following 3 factors that can alter the results of trading strategies:
Please note that even the best backtesting software cannot guarantee future profits. Infrequent liquidity is a frequent issue in the Forex markets. It is governed by various external factors and is very difficult to simulate.
There is a range of backtesting software available in the market today. Each software type has its own way of evaluating Forex trading strategies. Forex backtesting can be broadly divided into two categories – manual and automated.
This involves a fair amount of work, but it is possible. In manual Forex backtesting, you just take the historical data and step through it. A charting tool will help you to go bar by bar, so that you can observe the price action and subsequent performance metrics along the way. The advantages of manual backtesting include:
Manual backtesting methods can be a good way to start before you proceed to use automated software. Using an excel spreadsheet for backtesting Forex strategies is a common method in this type of backtesting.
Many traders believe that one shouldn't have to be a programmer or an engineer to backtest a strategy. This method takes us back to the very basics, which anyone can use. Spreadsheet programmes such as Excel are among the best ways to backtest Forex trading strategies for free. You need a publicly available source of data, such as 'date/time', 'open', 'high', 'low', 'close' or 'prices'. The time component is essential if you are testing intraday Forex strategies. To get the data, you can simply go to Yahoo Finance or Google Finance.
In the field "Enter Symbol/Company Name," fill in the symbol for the currency you want to see the data for. In the "Quotes" field, you will find the option to get historical prices for the symbol. Enter the date range here. Scroll down to the end of the page and click "Download to Spreadsheet".
Use the "Sort" option in Excel's data menu to prepare the data. Here's a look at one way to find the day of the week that provided the best returns. Suppose, our strategy is "buy the open" and "sell the close."
Column A - Date Column
Column B - Open Price
Column C - Close Price
Now comes the tricky aspect of using the formula that will provide the best results:
What the formula means is that if the day of the week (converted to a number between 1 to 5, which matches Monday to Friday) is the same as the days of the week in the first row of this column (D$1) then you will see the result accordingly. You can also choose to include average and sum functions at the bottom of the "Weekday" column to find the most profitable day to implement this strategy over the long term. This is a strategy for backtesting using the manual option. You can use many expressions and conditional formulae like this for testing Forex strategies. However, this method is tedious and time-consuming.
One software that would be ideal for manual back testing would be TradingView:
Launched in 2011, the TradingView platform is a good option for free Forex backtesting software. This Forex trader software is best known for its advanced charting tools. Real-time data and browser-based charts make research from anywhere possible, since there is nothing to install, and no complex setups to be taken care of. It is a social platform, where you can even share, watch or collaborate with other traders and publish your strategies on social media profiles like Twitter or blogs. One of the most useful tools for backtesting on this platform is the Bar Replay Feature.
To use it, follow these steps:
Source: TradingView - Bar Replay Feature
The playback feature is a great tool to understand what the charts looked like on a certain day, before you applied a certain strategy. However, the currency pairs that you test need to have enough historical data available for them.
There are certain limitations of TradingView that you should also be aware of, such as:
Automated backtesting involves the creation of programmes that can automatically enter and exit trades on your behalf. These programmes can be obtained free of cost online, although premium versions are available for purchase as well. One of the primary advantages of these tools is that they remove emotions from your trading activities. Many traders often use these tools on copy trading strategies to enhance chances of success. However, keep note that your programme has to match up to your personality and risk profile. Also, not all trading methods can be used with automated strategies.
Both MetaTrader 4 (MT4) and MetaTrader 5 (MT5) offer automated backtesting tools. Both MT4 and MT5 are proven and secure electronic trading platforms; popular choices for trading the financial markets. The indicator-rich MetaTrader 4 Supreme Edition plugin is the preferred option, owing to the additional features included that enhance the trader's experience. MetaTrader 4 is popular for FX backtesting because of its in-built 'Strategy Tester' feature.
The MT4 platform contains a 'Forex Simulator' that allows traders to rewind the time on their charts and replay the markets on any particular day. Orders can be placed, modified, and closed just like one would do under live trading conditions. Compared to Demo trading and other forms of Forex paper trading, trading on historical data can save a lot of time. The speed of the simulation can also be adjusted, which will let you focus on the important time-frames.
After you download MT4, you need to open the main menu and go to the "View" section where you will find the "Strategy Tester" option. Alternatively, you can press CTRL+R on the keyboard, and press the 'tester' button.
Source: MetaTrader 4 Supreme Edition (MT4SE) - Live Symbol Information Indicator
Some of the key features of the Strategy Tester are:
Source: MetaTrader 4 - Examples of Charts
This Forex simulation software is one of the best ways to backtest Forex trading strategies, both offline and online. By default, it is locked in demo mode. Reports on EA (Expert Advisor) testing results have been significantly upgraded on MT4 recently. Traders can now analyse ratios such as the Sharpe ratio, the recovery factor, position holding times, and many other characteristics, over 40 different characteristics can be analysed in the 'Strategy Tester' report. There are also balance and equity graphs that can ascertain the time distribution of profit/loss and positions taken over the course of weeks, months, and even years.
Another popular forex strategy backtesting option on MT4 is 'Forex Tester'. Unlike Strategy Tester, Forex Tester is not free, and can be used both for manual and automated trading activities. This automated backtesting software provides traders with pre-formed strategies. It has 10 manual programmes and 5 expert advisors, along with 16 years of historical price data, and a risk calculation and money management table.
Source: Forex Tester
Among the best Forex trading software that are designed to achieve consistent profits, MT4 is also allows you to backtest Forex strategies in an easy manner. After importing the historical data, you can simply click on "Start Test" to commence backtesting strategies. The "Start Test" button will change into "Stop Test" automatically. You will immediately see the moving bars on the chart. Test your strategies by placing orders, and see how they perform in the market. You can change the speed or even draw new bars to control the time-frame. In case you want to pause and analyse, press the "Pause" button. Forex Tester allows programming of new back-testing strategies in languages like 'C++' and 'Delphi'.
This Forex trading software is used to identify the profit and loss attributes of any system, in order to develop an effective trading strategy. Users are simply required to enter inputs like account size, ideal entries and exits, trailing stops, take-profit levels, back-testing hours, profit targets, slippage, and more, while the system provides detailed results about the gross and net profit ratios.
Some of Profit Finder's key features include:
Aside from retail backtesting platforms like TradingView or MT4, there are also some institutional online Forex backtesting softwares to consider too:
Proprietary trading houses, hedge funds and family businesses often use institutional backtesting software. Such software is available for use only after the license to do so has been purchased by the user. Although considered expensive, they do offer a complete solution package for data collection, historical backtesting, Forex strategy testing and live execution of high-frequency level strategies across various instruments. Since such systems are event-driven, the backtesting environment they provide is able to simulate live trading environments with higher accuracy.
Here are some examples:
QuantOffice by Deltix is used for visual development, back-testing and debugging of integrated EMS strategies, using Dot Net and C#. Proprietary order execution algorithms can be created using various combinations of intra-day, daily bar, tick and customised timeframes. Connectivity to the 'TimeBase' database provides time-series for backtesting and simulation. Some of its standout features are:
Institution-grade software 'QuantDEVELOPER' allows users to create, optimise, back-test and launch quantitative strategies that can be further executed in live-trading environments. It is also possible for users to evaluate, adjust, or increase the efficiency of the chosen parametres in a particular strategy. Useful statistics allow users to compare strategy results.
Some of the key features of this software are:
Whichever strategy you choose, analysis of your strategies will require competent Excel skills.
It is best to open an account with a broker authorised and regulated by the Financial Conduct Authority (FCA) and covered by MiFID, so that you can have real backtested results, when you start trading on live forex accounts.
This material does not contain and should not be construed as containing investment advice, investment recommendations, an offer of or solicitation for any transactions in financial instruments. Please note that such trading analysis is not a reliable indicator for any current or future performance, as circumstances may change over time. Before making any investment decisions, you should seek advice from independent financial advisors to ensure you understand the risks.