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Algorithmic Trading

This article outlines the process of back-testing a Bollinger band-based trading strategy using Python. It details the steps involved, including data import, calculation of daily returns, creation of strategy indicators, and analysis of results, ultimately revealing that the strategy underperformed compared to a buy-and-hold approach. The author emphasizes the importance of considering transaction costs and risks before implementing a strategy live.

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Khin Yee
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15 views9 pages

Algorithmic Trading

This article outlines the process of back-testing a Bollinger band-based trading strategy using Python. It details the steps involved, including data import, calculation of daily returns, creation of strategy indicators, and analysis of results, ultimately revealing that the strategy underperformed compared to a buy-and-hold approach. The author emphasizes the importance of considering transaction costs and risks before implementing a strategy live.

Uploaded by

Khin Yee
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
Available Formats
Download as DOCX, PDF, TXT or read online on Scribd
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Algorithmic Trading -

Backtesting a strategy in
python

Karthik Ram
·
Follow
Published in

Dev Genius

·
4 min read
·
Jan 3, 2022

169
2
Photo by Maxim Hopman on Unsplash

Intro
The goal of this article is to describe how to back-test a
technical indicator-based strategy on python. I will
specifically use a Bollinger band-based strategy to create
signals and positions.

Description of strategy
Create 20-day (+/- 2 standard deviations) Bollinger bands
on the adjusted close price. Buy, when the price crosses
the lower band from the top and hold until the price
crosses the upper band from below the next time. Sell
when the price crosses the upper band from below and
hold until the price crosses the lower band from the top
the next time.

Here are the steps to create your own back-testing


code.

1. Import necessary libraries

2. Download OHLCV Data

3. Calculate daily returns

4. Create strategy-based data columns

5. Create strategy indicators

6. Create signals and positions

7. Analyze results

Step 1: Import necessary libraries

Step 2: Download OHLCV: (Open, High, Low, Close,


Volume) data
I use yahoo finance python API — yfinance to get the data.
There are a lot of resources to get historical data in order
to backtest your strategies.
[*********************100%***********************] 1 of 1
completed

Step 3: Calculate daily returns


This step calculates daily returns for comparing
performance with the buy and hold strategy. A buy and
hold strategy becomes a benchmark or comparing the
strategy. In other words, it checks if the strategy
performed better than simply buying and holding the
stock. A good strategy would essentially perform better
than a buy-and-hold strategy.

Step 4: Create strategy-based data columns


The next step is to create indicators to generate conditions
of the strategy. For Bollinger band strategy, involves the
20-day moving average, the standard deviation of the 20
days moving average, upper band, and lower band of the
standard deviation. [ma20,std,upper_band,lower_band]

Step 5: Create strategy indicators


The following is the most crucial part of creating the
strategy. It involves
 generating long and short signals as mentioned in the
strategy

 replacing zeros with forwarding fill, to generate long


and short positions

 shifting positions by 1 to signify return calculations


done from close of a day to the next day close price

Signals are essentially indicators that signify the action


that needs to be taken (ie: to buy or sell). Positions are
what you maintain after buying or selling (ie: going long or
short).

Step 6: Create signals and positions


The next step is to compare the strategy performance
using cumulative returns.
This involves element-wise multiplication of the positions
with the daily returns.
Buy and hold returns: 1.4441301364703079
Strategy returns: 0.3712255745848457

<AxesSubplot:xlabel='Date'>
Step 7: Analyze results

For this step I use pyfolio. Pyfolio is a Python library for


performance and risk analysis of financial portfolios
pf.create_simple_tear_sheet(df['strategy_returns'].diff())
pyfolio results
Comments
The results from pyfolio are self-explanatory.

The ‘Bollinger band’ strategy on the historical data did not


perform better than the buy & hold strategy. The
cumulative daily returns for buy and hold accounts for 1.44
times the initial investment and the Bollinger band
strategy returns account for 0.37 times the initial
investment.

For obvious reasons, one should not take a strategy live,


even if it gives great returns on back-testing. There are
various risks involved such as not accounting for
transaction costs and momentum in stock price.

The performance of a strategy can also be optimized by


checking the returns on various strategy parameters.

Various other technical indicators can be used in


conjunction to create signals which can reduce risks and
improve performance. Live strategies should implement
stop loss and kill switches in case the strategy goes of
hand.

This code snippet can be found


at: https://github.com/karthikramx/Algorithmic-Trading-
Backtesting-python-example

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