Friday, August 13, 2010

Watukushay No.5 and JPY crosses : First Encouraging Results

When I coded Watukushay No.5 my idea was to build a universal breakout system that could be used to exploit a wide array of market inefficiencies in the foreign exchange market. After discovering 10 year profitable backtesting settings for 6 different currency pairs it seemed that this system was able to achieve this goal with similar profitability and good profit to draw down ratios on all of these different instruments. However it then became clear that the system was missing to conquer one formidable enemy which has eluded me since I first started my ventures in long term profitable trading : the JPY crosses. Within this article I will share with you some of my first profitable results on a JPY cross using Watukushay No.5.

The JPY crosses are definitely hard to trade and to exploit mechanically and the reasons why this is the case are many. Perhaps the most important reason is the general lack of liquidity of these instruments which causes wild swings and unpredictable behavior with some trading days having even 1000 pip rallies and some others having 1000 pip whipsaws. It becomes clear then that coming up with a trading technique using Watukushay No.5 to exploit their trading behavior would not be easy but since I always enjoy a good challenge I decided to give this a shot.

When I first started to try Watukushay No.5 on the EUR/JPY, it seemed that the EA would be unsuccessful in trading this pair. Settings that gave 10 year profitable results on other pairs were marginally profitable and an analysis of the backtests revealed promptly that the inefficiencies I was trying to exploit were very weak, if even existent at all. By analyzing the initial simulation results and trades I then realized that perhaps I needed to give this problem a fresh perspective, maybe the problem could be solved by changing focus. This is when I realized that eventhough short term or long term breakouts as those traded by the USD/CHF and NZD/USD respectively were not going to work on the EUR/JPY, it seemed that the strong whipsaws and changes in direction in the longer time frames could in fact be traded to achieve profitable results.

So the answer Watukushay No.5 gave to the EUR/JPY was quite clear, it is not trading in the direction but fading long term breakouts what might work for this currency pair. I then started to use long periods of breakout-box definition (hundreds of hours) and I started to test the limit function of the EA which reverts the pending order positions and their intent with breakouts towards the upside triggering short trades and breakouts towards the downside triggering long trades. The results started to look much better and an inefficiency that could be exploited with modest results started to arise from the dark.
The above image shows you how this technique actually works for this pair. Long term period breakouts tend to signal reversals since - on this pair at least - strong moves towards one side seem to signal reversals while they rarely signal true trending periods. This shows us how different the behavior of this currency pair is when compared with the other pairs traded by Watukushay No.5, on other instruments the EA exploits breakouts that lead to trades that follow overall trend direction while on this currency pair an inefficiency which is almost opposite in nature appears to take place.

The ten year backtests shown below (Jan 2000 to Jan 2010) show us that the EA indeed manages to achieve long term profitable results for this currency pair. However the fact is that the average compounded yearly profit to maximum draw down ratio is almost 1:3 (so there is still a lot of improvement needed before we can add this to our portfolio). The important thing here is that we were able to achieve our first 10 year profitable settings for this pair and now that we know the nature of the inefficiencies we can exploit it will become much easier to find more profitable results for this and other currency pairs.
In the end it seems that Waukushay No.5 is indeed a very powerful and universal breakout trading system that can be used for the finding of breakout based inefficiencies on a wide array of different currency pairs. With the JPY crosses we will hopefully be able to add the EUR/JPY and GBP/JPY to our current instrument portfolio for this EA. If you would like to learn more about Watukushay No.5 and its trading tactics and results in live and back testing please consider joining, a website filled with educational videos, trading systems, development and a sound, honest and transparent approach to trading systems. I hope you enjoyed this article ! :o)

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