It sounds like you are on the right track with the exit and breakout ideas. I believe that I would be doing you a disservice in offering anything further other than suggesting that you learn how to define an idea so precisely that you can code it up and test it.
Since I have never been a mechanical trader (I am a rules based discretionary trader), I have never attempted to back test any strategies. This email, however, provided me the impetus needed to delve into the world of back testing.
I found a great program for back testing called Trading Blox, which is so simple to use, even I, with no programming skills, was able to figure it out. You can download a free trial of the program here.
My intention is not to alter my stock trading system (I am satisfied with that), but to create a Forex trading system to trade in addition to trading stocks. I have decided to trade a system based on Donchian Channel breakouts, which is a system somewhat similar to what the Turtles traded as outlined in Michael Covel's second book.
There is a lot I could discuss about this system, but I would like to focus on just one key variable, which is how much should be risked on each trade. You can't control how much money a trade will make, but you can control how much you are willing to lose. Below are the results of my system using different bet sizes:
In the table above, we see that in the first row, risking 0.25% on each trade using my system results in a 10.34% annualized rate of growth, with a maximum drawdown of 26.9%. The back test was for all liquid futures and used data from 1996 until today.
The row highlighted in blue represents the results of using a 1% risk per trade, a figure often used by veteran traders.
Below is a graph showing risk per trade versus return:
So, basically, if you risk much more than 2% per trade, results become worse (and drawdowns begin to get pretty horrendous).
In summary, the results of my back test confirm what I had already suspected to be true: don't risk more than 2% per trade.
We approach markets backwards. The first thing we ask is not what can we make, but how much can we lose. We play a defensive game.
-Larry Hite
Never risk more than 1% of total account equity on any one trade. By risking 1%, I am indifferent to any individual trade. Keeping your risk small and constant is absolutely critical.
-Larry Hite
There are old traders and there are bold traders, but there are very few old, bold traders.
-Ed Seykota
