A Trader Journal

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Study: Strategy diversification

Often when people think of diversification, the primary consideration is asset diversification. One challenge with asset diversification is in recent years most assets are highly correlated. I think there are low hanging fruit available to traders like strategy and time diversification which are more robust in providing diversification, are simple and compliment well any asset diversification.

But often the emphasis of trading books and typical trader's R&D is more on figuring new chart patterns/setups/indicators etc which in the end doesn't really provide diversification. One likely reason - assumption that strategy diversification means it has to be complex like using several time frames or has to be esoteric (relatively speaking) like "trend trading" and "arbitrage" etc.

Following study uses two simple systems - RSI System & SMA System. They play same market condition (i.e., bull market), same side (i.e., only longs and no shorts), one chart time frame (i.e., only daily) and only one market (i.e., SPY ETF) with low correlation results. From the study you can see because of the low correlation, the returns of the account using both systems is higher than individual returns of either system. Also the max draw down of the account even with 0.5x leverage is less than both systems.

RSI System:
Buy the market when "RSI(5) is below 25" and "Close is above 200 MA". 
Exit the position when "RSI(5) is above 60."

MA System:
Buy the market when "SMA(5) crosses above SMA(200)". 
Exit the position when "SMA(5) crosses below SMA(200)".

Image:Performance Summary

Returns are cumulative and per share. I chose the indicator parameter numbers randomly. The results are friction less. Also the results do not consider margin costs for 0.5x leverage account.

Question to readers:
I hope you found the post interesting and informative. I am curious to hear your thoughts on what other ways one can improve this system? Improvement can be from any direction i.e., higher returns or reduced draw downs etc. Similarly the suggestions can be from any direction i.e., money management or additional systems etc.

Note: This post (or for that matter any post on this blog) is not an advice. In trading, you can lose more than you think. So please do your own due diligence.


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