I decided to simulate trading with captgrumpy’s methodology, to see how P/L might evolve. I chose USD/JPY for my simulation, and the past 6 months for the simulation period. This exercise can be thought of as a manual backtest, in which I visually identified the entry points (stop-and-reverse points, to be more precise), and measured the swings (in pips) between them.
There was no particular reason for selecting USD/JPY for this simulation. The reason for limiting the simulation to 6 months was that doing it longer would have been a pain in the butt.
Captgrumpy’s methodology is strictly rule-based, so I had to define a couple of rules, and make sure that I followed them like a robot. Defining the stop-and-reverse (SAR) points was the most important rule to be established, and it was also the easiest. See below for an explanation.
More problematic was defining whether and when to re-enter after a false signal had triggered a failed entry – and on that one I punted, simply assuming that a failed entry would trigger an exit (without reversing), after which I would wait for the next SAR signal to re-enter.
This methodology is based on three signals, two of which (as I understand it) trigger an SAR. The three signals are: (1) change in direction of the WMA-5, (2) change in color of the Heikin Ashi (H/A) candles, and (3) WMA-5 and WMA-12 cross-over. The first two signals trigger a stop-and-reverse (SAR), and the third signal confirms the new position.
If (1) the 5-period weighted moving average (WMA-5) is downward-sloping (or horizontal), and then turns upward, and (2) the H/A candles change color from red to green, then a signal has been given to close an existing SHORT position and open a new LONG position. If the WMA-5 subsequently crosses over the WMA-12, then the new LONG position is confirmed. If the cross-over does not occur, then the new LONG position is deemed to have failed, and should be exited promptly.
If (1) the WMA-5 is upward-sloping (or horizontal), and then turns downward, and (2) the H/A candles change color from green to red, then a signal has been given to close an existing LONG position and open a new SHORT position. As above, a WMA cross-over (or failure to cross over) confirms the new position (or indicates failure).
When an SAR signal occurs, it occurs at the close of a candle. In the case of daily charts, such as the USD/JPY charts I used in this simulation, we are looking for signals after the daily close each day. The daily close is defined by each broker, and is built into that broker’s platform. Some platforms allow user’s to choose their preferred end-of-day, and to adjust their charts acccordingly. But, this option is not available on all platforms.
The simulation I ran utilized so-called “advanced charts” in the forex.com platform. These are simply TradingView charts synchronized to match the end-of-day built into the forex.com platform, which happens to be 7 pm New York time. Other platforms utilize 5 pm New York time, midnight New York time, midnight London time, or some other end-of-day. I think that all of these will work satisfactorily with this methodology, although I have not tested that theory.
When a signal to stop-and-reverse occurs, the actual SAR should be executed promptly after the opening of the next candle. In the charts which appear below, I have marked the SAR points with black squares to make them visible, and labeled them with letter-designations. In measuring P/L in pips from one SAR point to the next, I assumed that each SAR price conformed exactly to the closing price of the daily candle giving the SAR signal.
A note on stop-and-reverse: I have adopted the stop-and-reverse terminology from Welles Wilder Jr, whose Parabolic SAR method is widely known. As far as I know, Wilder coined the phrase stop-and-reverse, and the abbreviation SAR.
As a practical matter, stop-and-reverse is easy to execute. After an initial one-lot entry (either LONG or SHORT), the first SAR is accomplished by entering a two-lot order in the opposite direction. So, for example, in my USD/JPY simulation, the first entry into the market was a one-lot LONG entry. When an SAR signal was given (to exit the LONG and open a SHORT), it was executed by “selling” two lots – resulting in a net one lot SHORT position. The next SAR signal was executed by “buying” two lots – resulting in a net one lot LONG position. And so forth.
“Lot” means any position size which conforms to the rules and metrics of your particular style of trading.
On the 4 charts which follow, I have added notes which I believe will explain the (simulated) steps that I followed.
I haven’t totaled the P/L for this simulation, but obviously it is positive.
The first chart shows USD/JPY for the early part of this year. For this simulation, I decided to begin employing this methodology in mid-June. The initial entry (LONG) into the market is designated as point A.
After a simple entry at A in mid-June, the first SAR occurred at B in mid-july.
Chart #3 shows that trouble developed at C-D-E-F, with fake-outs and whipsaws. In order to score the P/L, I made the assumption that most of that path (down, up, and down again) produced losses.
The entire 5½-month period, from initial entry to present, is detailed in Chart #4.