The Simplest Trend Following Trading Strategy.
Creating & Evaluating a Simple Cross Strategy Step-by-Step in Python.
Moving average crossovers are one of the simplest trading techniques and even though they have their weaknesses, they have stood the test of time with regards to usage. This article presents a simple moving average cross research strategy from A to Z in Python.
I have just released a new book after the success of the previous book. It features advanced trend following indicators and strategies with a GitHub page dedicated to the continuously updated code. Also, this book features the original colors after having optimized for printing costs. If you feel that this interests you, feel free to visit the below Amazon link, or if you prefer to buy the PDF version, you could contact me on LinkedIn.
Fetching Historical OHLC Data
One of the most famous trading platforms in the retail community is the MetaTrader5 software. It is a powerful tool that comes with its own programming language and its huge online community support. It also offers the possibility to export its historical short-term and long-term FX data.
The first thing we need to do is to simply download the platform from the official website. Then, after creating the demo account, we are ready to import the library in Python that allows to import the OHLC data from MetaTrader5.
A library is a group of structured functions that can be imported into our Python interpreter from where we can call and use the ones we want.
The easiest way to install the MetaTrader5 library is to go to the Python prompt on our computer and type:
pip install MetaTrader5
This should install the library in our local Python. Now, we want to import it to the Python interpreter (such as Pycharm or SPYDER) so that we can use it. Let us actually import all the libraries we will be using for this:
import datetime # Date acquiring import pytz # Time zone management import pandas as pd # Mostly for Data frame manipulation import MetaTrader5 as mt5 # Importing OHLC data import matplotlib.pyplot as plt # Plotting charts import numpy as np # Mostly for array manipulation
Anything that comes after “as” is a shortcut. The plt shortcut is there so that each time we want to call a function from that library we do not have to type the full matplotlib.pyplot statement.
The official documentation for the Metatrader5 libary can be found here.
The first thing we can do is to select which time frame we want to import. Let us suppose that there are only two time frames, the 30-minute and the hourly bars. We can therefore create variables that hold the statement to tell the MetaTrader5 library which time frame we want.
# Choosing the 30-minute time frame frame_M30 = mt5.TIMEFRAME_M30
# Choosing the hourly time frame frame_H1 = mt5.TIMEFRAME_H1
Then, by staying in the spirit of importing variables, we can define the variable that states what date is it now. This helps the algorithm know the stopping date of the import. We can do this by the simple line of code below.
# Defining the variable now to give out the current date now = datetime.datetime.now()
Note that these code snippets are better used chronologically, hence, I encourage you to copy them in order and then execute them one by one so that you understand the evolution of what you are doing. The below is a function that holds which assets we want. Generally, I use 10 or more but for simplicity, let us consider that there are only two currency pairs: EURUSD and USDCHF.
def asset_list(asset_set): if asset_set == 'FX':
assets = ['EURUSD', 'USDCHF']
Now, with the key function that gets us the OHLC data. The below establishes a connection to MetaTrader5, applies the current date, and extracts the needed data. Notice the arguments year, month, and day. These will be filled by us to select from when do we want the data to start. Note, I have inputed Europe/Paris as my time zone, you should use your time zone to get more accurate data.
def get_quotes(time_frame, year = 2005, month = 1, day = 1, asset = "EURUSD"): # Establish connection to MetaTrader 5 if not mt5.initialize(): print("initialize() failed, error code =", mt5.last_error()) quit() timezone = pytz.timezone("Europe/Paris") utc_from = datetime.datetime(year, month, day, tzinfo = timezone) utc_to = datetime.datetime(now.year, now.month, now.day + 1, tzinfo = timezone) rates = mt5.copy_rates_range(asset, time_frame, utc_from, utc_to) rates_frame = pd.DataFrame(rates)
And finally, the last function we will use is the one that uses the below get_quotes function and then cleans the results so that we have a nice array. We have selected data since January 2019 as shown below.
def mass_import(asset, horizon): if horizon == 'M30': data = get_quotes(frame_M30, 2019, 1, 1, asset = assets[asset]) data = data.iloc[:, 1:5].values data = data.round(decimals = 5)
Finally, we are done building the blocks necessary to import the data. To import EURUSD OHLC historical data, we simply use the below code line:
# Choosing the horizon horizon = 'M30'
# Creating an array called EURUSD having M30 data since 2019 EURUSD = mass_import(0, horizon)
And voila, now we have the EURUSD OHLC data from 2019.
The Concept of Moving Averages
Moving averages help us confirm and ride the trend. They are the most known technical indicator and this is because of their simplicity and their proven track record of adding value to the analyses. We can use them to find support and resistance levels, stops and targets, and to understand the underlying trend. This versatility makes them an indispensable tool in our trading arsenal.
As the name suggests, this is your plain simple mean that is used everywhere in statistics and basically any other part in our lives. It is simply the total values of the observations divided by the number of observations. Mathematically speaking, it can be written down as:
We can see that the moving average is providing decent dynamic support and resistance levels from where we can place our orders in case the market goes down there. The code for the moving average can be written down as the following:
def adder(Data, times): for i in range(1, times + 1): new = np.zeros((len(Data), 1), dtype = float) Data = np.append(Data, new, axis = 1)
def deleter(Data, index, times): for i in range(1, times + 1): Data = np.delete(Data, index, axis = 1)
return Data def jump(Data, jump): Data = Data[jump:, ] return Data
def ma(Data, lookback, close, where): Data = adder(Data, 1) for i in range(len(Data)): try: Data[i, where] = (Data[i - lookback + 1:i + 1, close].mean()) except IndexError: pass return Data
The below states that the moving average function will be called on the array named my_data for a lookback period of 200, on the column indexed at 3 (closing prices in an OHLC array). The moving average values will then be put in the column indexed at 4 which is the one we have added using the adder function.
my_data = ma(my_data, 200, 3, 4)
If you are also interested by more technical indicators and strategies, then my book might interest you:
Creating the Strategy
A moving average cross is when the moving average cross the market price. The idea is that the trend has changed and confirmed by the cross, therefore, some traders use this as a trading trigger while others wait for a pull-back before initiating a position.
When the market price surpasses the moving average, a bullish signal is generated.
When the market price breaks the moving average, a bearish signal is generated.
To create this, we can follow the syntax below.
ma_lookback = 60
my_data = adder(my_data, 10)
my_data = ma(my_data, ma_lookback, 3, 4)
The below signal function uses states that whenever the short-term moving average is above the long-term moving average while the last value of the short-term moving average is below the last value of the long-term moving average, a bullish signal is generated, and vice versa.
def signal(Data, ma_col, buy, sell): for i in range(len(Data)): # Bullish Cross if Data[i, 3] > Data[i, ma_col] and Data[i - 1, 3] < Data[i - 1, ma_col]: Data[i, buy] = 1 # Bearish Cross elif Data[i, 3] < Data[i, ma_col] and Data[i - 1, 3] > Data[i - 1, ma_col]: Data[i, sell] = -1 return Data
Evaluating the Strategy
Having had the signals, we now know when the algorithm would have placed its buy and sell orders, meaning, that we have an approximate replica of the past where can can control our decisions with no hindsight bias. We have to simulate how the strategy would have done given our conditions. This means that we need to calculate the returns and analyze the performance metrics. Let us see a neutral metric that can give us somewhat a clue on the predictability of the indicator or the strategy. For this study, we will use the Signal Quality metric.
The signal quality is a metric that resembles a fixed holding period strategy. It is simply the reaction of the market after a specified time period following the signal. Generally, when trading, we tend to use a variable period where we open the positions and close out when we get a signal on the other direction or when we get stopped out (either positively or negatively).
Sometimes, we close out at random time periods. Therefore, the signal quality is a very simple measure that assumes a fixed holding period and then checks the market level at that time point to compare it with the entry level. In other words, it measures market timing by checking the reaction of the market after a specified time period.
# Choosing a Holding Period for a trend-following strategy period = 20
def signal_quality(Data, closing, buy, sell, period, where): Data = adder(Data, 1) for i in range(len(Data)): try: if Data[i, buy] == 1: Data[i + period, where] = Data[i + period, closing] - Data[i, closing] if Data[i, sell] == -1: Data[i + period, where] = Data[i, closing] - Data[i + period, closing] except IndexError: pass return Data
# Applying the Signal Quality Function my_data = signal_quality(my_data, 3, 6, 7, period, 8)
positives = my_data[my_data[:, 8] > 0] negatives = my_data[my_data[:, 8] < 0]
# Calculating Signal Quality signal_quality = len(positives) / (len(negatives) + len(positives))
print('Signal Quality = ', round(signal_quality * 100, 2), '%') # Output Signal Quality EURUSD = 49.78% # Output Signal Quality USDCHF = 49.02% # Output Signal Quality GBPUSD = 50.90%
As this is a trend-following strategy, longer holding periods should correspond to better quality. A signal quality of 49.02% means that on 100 trades, we tend to see a profitable result in 49 of the cases without taking into account transaction costs.
Remember to always do your back-tests. You should always believe that other people are wrong. My indicators and style of trading may work for me but maybe not for you.
I am a firm believer of not spoon-feeding. I have learnt by doing and not by copying. You should get the idea, the function, the intuition, the conditions of the strategy, and then elaborate (an even better) one yourself so that you back-test and improve it before deciding to take it live or to eliminate it. My choice of not providing specific Back-testing results should lead the reader to explore more herself the strategy and work on it more.
One Last Word
I have recently started an NFT collection that aims to support different humanitarian and medical causes. The Society of Light is a set of limited collectibles which will help make the world slightly better as each sale will see a percentage of it sent directly to the charity attributed to the avatar. As I always say, nothing better than a bullet list to outline the benefits of buying these NFT’s:
High-potential gain: By concentrating the remaining sales proceedings on marketing and promoting The Society of Light, I am aiming to maximize their value as much as possible in the secondary market. Remember that trading in the secondary market also means that a portion of royalties will be donated to the same charity.
Art collection and portfolio diversification: Having a collection of avatars that symbolize good deeds is truly satisfying. Investing does not need to only have selfish needs even though there is nothing wrong with investing to make money. But what about investing to make money, help others, and collect art?
Donating to your preferred cause(s): This is a flexible way of allocating different funds to your charities.
A free copy of my book in PDF: Any buyer of any NFT will receive a free copy of my latest book shown in the link of the article.