Forex Managed Accounts

Analyzing a forex strategy and deciding on its effectiveness is one of the most important tasks faced by a forex trader, regardless of the knowledge and experience level. Unless we are able to determine the profit potential of a trading system, we’re fumbling in the dark when it comes to making decisions and planning about the future. And we all know that planning and discipline are crucial to a successful forex trading career. Consequently, it’s clear that we must have a credible and reliable way of testing our strategies in order that we can have a reasonable degree of foresight in our trading choices.

In this context, the z-score is an extremely useful tool employed by analysts for determining if a strategy can generate strings of wins or losses. Of course, any strategy will create strings of wins and losses at times, just as any random list of wins and losses will contain strings. We use the z-score to decide if a trading strategy is generating the strings in a way that is non-random. What use is this knowledge for the trader? Obviously, if we can ensure that our wins and losses follow each other, we will be more confident while building up a position, because a profitable trade is more likely to be followed by another one that is also profitable. Conversely, it will be easier to stop or reverse a trade after one or two losses, because we know that our strategy generates losses in strings, and a losing trade is likelier to be followed by one that is also a loss.

In order to analyze the results generated by our strategy we must compare the z-score of our strategy to its confidence interval on the normal distribution. The normal distribution is a very useful concept used by scientists and statisticians for, for example, analyzing the frequencies of traits in a population. It is a curious fact of nature that the IQ levels of individual in population are distributed in a manner that is dependent on normal distribution.

If the results generated by our trading strategy are non-random, we would expect them to be clustered at the tails of the normal distribution pattern, as defined by its relevant confidence interval. It may sound complicated, but with just a little practice, it’s in fact a very straightforward, useful, and simple method which requires only high school mathematics.

The z-score is of course just one of the numerous mathematical methods available to traders for establishing the usefulness of a strategy. The crucial point when using any of these methods is to ensure that we gather our data sample from actual trading results, and not from historical, hypothetical what-if scenarios that have little relevance and credibility in the actual market environment. Let’s remember that even the top forex brokers in the market are unlikely to help us much if we don’t apply sensible and logical methods while trading the markets.

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