History Doesn’t Repeat, But It Rhymes

Want to know if your strategy works? Don’t trade it live. Not yet. Test it first against years of historical data. Backtesting compresses decades of market experience into weeks of study. It’s the closest thing to a crystal ball.

But only if you do it right.

How to Backtest Properly

The Rules of Valid Testing

1. Use out-of-sample data

2. Include different market regimes

3. Account for costs

4. Be honest about fills

5. Test sample size

The Process

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Define rules → Mark charts → Record results → Analyze metrics → Refine → Repeat

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Common Backtesting Mistakes

The Traps That Kill Strategies

Look-ahead bias

Using information that wasn’t available at the time of the trade. Example: Trading based on today’s close when you’re testing intraday.

Survivorship bias

Testing only stocks that still exist. Dead companies don’t show up in current databases.

Overfitting

Optimizing so precisely for past data that the strategy fails in live markets. More parameters = higher overfitting risk.

Ignoring market impact

Assuming you can enter/exit large positions without moving the market.

What Backtesting Can’t Tell You

Backtesting is necessary but not sufficient. It’s the foundation, not the building.

Action Items