Trading Systems 101: Filtering Out The Noise For Proper Evaluation

Ilan Levy-Mayer |


As we dive further into the twenty-first century, many fantasy and futurist ideas from the past have slowly become a reality: watches double as phones, robots can clean our homes, and even though they can't fly yet, our cars can greet us and give directions. Many people believe that the evolution of all this technology has led to a decrease in human interaction, and while that may be true, and a negative in some aspects; there can be an advantage when the emotional rollercoaster that is the human mind is taken out of the equation.

Even for the most logically set minds on Wall Street, psychology plays a huge role in the market. Emotions run high, there are hasty impulses, and often a lack of self-control. Most trading professionals will agree that the human element can, at times, severely impact the trading goals and strategies of the trader, as they strive for profit and attempt to escape the pain of losses. This is where technology can save us from ourselves.

Well-designed, automated trading systems can offer the possibility of neutralizing the main psychological enemies of traders. Algorithmic (Algo) trading systems are written by investment professionals who know the markets intimately and offer a fast and wise decision-making process that eliminates the emotion, procrastination, and irrational decisions that human nature draws out.

That being said, I get too many emails about systems claiming to have the crystal ball or producing results that are too good to be true. Ninety-nine percent of the time, if it is too good to be true it is simply not true...

Yet there are more than a few solidly performing trading systems out there that can help investors achieve higher than average results; many with very little correlation to the stock market, as most systems I deal with are in the field of futures and commodities.

Finding the Right System for your Investment Objectives

So how does one go about evaluating trading systems trying to decide if a certain system or portfolio of systems might be a good fit for his/her investment objective?

You can ask the following pointers/questions to an investment professional, and they can help you filter out and screen possible trading systems for you to participate in:

  1. Know yourself! How aggressive or conservative are you? How much risk capital do you have in mind? Do you have apreferences between systems that are day trade only versus long term? Perhaps you would like to avoid selling options as a method?
  2. Who is behind the system? Who are the parents of this "trading child"? My common sense inspires me to lean towards investment professionals who are registered with regulating bodies such as the NFA, SEC, FINRA etc. are under more scrutiny to use a balanced approach in marketing their systems and presentation of trading systems. Even if registered, it would be wise to check how much experience they have, their credentials, and their background.
  3. Start picking the system apart: Does it have live results? Back test results only? Back test and forward test results? If a system ONLY has back testing results, I personally recommend to stay away until it has either forward/simulated results or much better live results. Any experienced trade system designer would first design the system, test it over sample time data, and then would leave out time data passed the back test sample so he can test the system on the time sample it was not designed based on. So for example, I may test a new crude oil system and design it based on running some tests from 2011-2014. I would purposely leave out 2015 out of the equation so once my system is up and running I can now test it on 2015 to see if the stats are matching to even close to my optimized, back tested results.
  4. Draw Downs. ALL systems, managed accounts, trading programs, and such HAVE DRAW DOWNS. Period. The main questions are: how long, how deep and how quickly does the system recover from these draw downs? This will also go back to my first point of this article - how do these draw downs fit your personality and personal risk profile?
  5. Results. Are results reported with or without fees? Are the results attractive enough for the risk you will need to absorb? Do you know what the risk is?

The bottom line in investing is that past performance is not indicative of future results, and that holds for trading systems as well. What we try to do is speculate based on historical performance and take calculated risks into the future. The same holds for participating in trading systems.

As the title hints, this is just a basic window looking at trading systems. For myself, I see many advantages of proper trading system as an investment vehicle for investors, and spent many hours designing, evaluating and dealing with systems.

I hope this brief article will allow you to evaluate certain systems from a better perspective as well as asses myself and our Series 3 professionals at Cannon Trading Co, Inc. We would be more than happy to assist you in evaluating most trading systems out there.

DISCLOSURE: The views and opinions expressed in this article are those of the authors, and do not represent the views of Readers should not consider statements made by the author as formal recommendations and should consult their financial advisor before making any investment decisions. To read our full disclosure, please go to:


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