Welcome to Forex Backtest Friday, a post series where I share the backtest results of the market tendencies I investigate.
This week, we'll be taking a look at the "best technical indicator in Forex", according to this article from Babypips. In it, the author says the best indicator is the Ichimoku Kinko Hyo.
If you're not familiar with Ichimoku,
- Tenkan Sen = Average of the highest high and lowest low over last 9 periods
- Kijun Sen = Average of the highest high and lowest low over last 26 periods
In the article, the author backtested the crossing of the Kijun Sen by the Tenkan Sen on the EUR/USD daily chart, resulting in 53 trades and a 30.34% profit over 5 years:
In my opinion, 53 trades is too small a sample size... and given that the largest number of test trades is 128 (for the Parabolic SAR), I'm guessing these backtests were done manually. If this is the case then there's a good chance of human subjectivity (bias) embedded in the results.
So I created a robot to run my own backtest of the Ichimoku indicator on the 1 hour and 4 hour time frames. This will result in a larger number test trades, and at the same time greatly reduce the element of human bias.
Buy criteria (reverse for sell):
- Tenkan Sen crosses above Kijun Sen (upon candle close)
- Buy on open of next candle
Trade parameters:
- No stop loss
- No profit target
- Lot size per trade is fixed at 1 mini lot
- When a buy trade is opened, close prior sell trade (and vice versa when opening a sell trade)
- i.e. There is always one trade open
Backtest settings:
- Test period: 1 Jan 2009 - 31 May 2020
- Starting capital: $10,000
- Trading costs are not considered
The Results
Here are the results of the backtest (click to view):
And here's the summary of the results:
Perhaps unsurprisingly, there's a wide variation of outcomes across currency pairs and time frames.
The first thing to notice is that most of the results are smaller than +/- 60%, which is about +/- 5.5% per year.
I've highlighted the results that are over this threshold. These are the pairs and time frames I'd be interested in investigating further. (For the negative results I can simply flip the buy and sell trades to get a positive result).
One thing I'd like to point out is that I think the author at Babypips may have committed a common backtesting mistake: having too small a sample size of backtested trades. Here's why.
Take this equity curve of the backtest I ran on the EUR/USD 1 hour chart:
The red box highlights the gains made over roughly 200 trades. If we only looked at these, we may have (erronously) concluded that the Ichimoku indicator was highly profitable on this pair and time frame. But when we consider all 3000+ trades, we see that it was actually barely profitable with a mere 18.07% return over 11 years. And remember, we have not yet considered trading costs.
So the reason we want a large sample size of backtested trades is to avoid drawing premature conclusions like this.
Ok so let's move on.
The pair that catches my eye is the GBP/JPY. It looks like the Ichimoku indicator is effective on both the 1 hour and 4 hour charts.
To get a more accurate sense of its profitability on this pair, I re-did the backtest with a spread of 1.5 pips. This will lower its net gain but the question is: by how much?
Let's take a look (click to view):
So the net gain dropped from:
- 123.1% to 79.7% (1 hour chart), and
- 62.0% to 51.9% (4 hour chart)
This works out to an average gain of approximately 7.2% and 4.7% per year, respectively. Not a bad result, considering there had been no performance optimization at all.
From here, I'd be looking to add/tweak certain parameters to improve performance. I might add a stop loss for each trade, and/or include some trade filters. Also, I'd be looking at reducing the drawdown period and/or amount.
It looks like this is a trading approach that - after some tweaking - might be a candidate for forward-testing.
Note: The backtest continues here.
I really like your approach to this task! Very thorough and realistic as to what EAs ca do.
Interesting that this Japanese indicator does pretty well for all the Yen pairs!
I would be reluctant to add more filters, but try some money management, eg SL, TS, BE etc and perhaps re-entries.
Thanks Andrew, appreciate the kind words and suggestions, I’ll be keeping them in mind as I tweak the EA. 🙂
would like to see some testing with money management.
nice work great job well done.
irv
How about Daily time frame?
Hi Curtis, the problem with the daily time frame in this case is that the number of test trades will be too small to make any meaningful conclusions from the results. Generally I like to see at least a few hundred trades.
try forward testing – there is an infinite number of systems that produce good results in back testing.
Thanks for the comment Fred. That’s a good point.
Nice work
Thanks!
Nice test. It would be interesting to add a Kumo qualifier: for buy, price must be above Kumo. For sell, price must be below Kumo. Price inside Kumo, then no trade.
Hi Zippy, great idea, thanks!
Very useful information. Looking forward for your next review.
Another idea. Instead of taking a minilot trade once, use microlots and enter again each time at close of bullish candle when initial is a Buy and at close of bearish candle when initial is a Sell.
So when price reverses early, will only lose small lot trade size. When trend continues for a while we build up lot size nicely; could set a restriction as to how many re-entries so as to avoid getting in at top/bottom of trends.
And maybe for exit, you could use the Ichi but with tighter periods; would need to have this also as second entry condition to avoid trades being closed immediately.
Hi Andrew, good suggestion! Question: What do you meanm by ‘tighter periods’ exactly?
Even ADX Iis also performing too good in 1 hr time frame of JPY s.
Entry is 9 26. So make exit say 6 20 or whatever so that it will close before the reverse entry is triggered; or restart a trade if the exit was just a minor pullback.
Ok, I see what you mean now. Good idea! 🙂
HAVE YOU SEEN A COMMON THING.
THAT ON 1 HOUR ALL THE JPY PAIRS HAVE A GOOD AMOUNT OF PROFIT AND THE AVERAGE OF ONLY JPY PAIRS PROFIT IS (+56.86%) WHICH IS A GOOD PERFORMANCE.ACCORDING TO THE ABOVE TABLE .
CONCLUSION: TRADE ALL JPY PAIRS WITH ICHIMOKU IN 1 HOUR CHART AND BETTER WILL BE IF YOU DO A BACK TEST FIRST
😀😀😀 HAPPY TRADING 😀😀😀
Hi Anirban,
Good observation, ichimoku does look to be more effective on the JPY pairs. Thanks for the comment!
This is deserve to be published on some scientific journal.
Hi Cale, you are too kind.