Quote from acrary:
Then you'd pass the data into a backprop neural net and have it train on the data. (you'll need to set aside some data for out of sample testing). Once it's trained to hit at least 90% correctly test the NN on the out-of-sample data. If you hit at least 85% correctly then you can do one of two things. If you're a discretionary trader, setup the NN and preprocess the inputs every day and use the net to predict whether tomorrow has the target (in this example the low of the day is within 15 min. of the start of the session). If so use it to trade to the upside as long the net remains 85% correct.
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Next, take the trades and test them against random trades pulled from the same year (the edge test). Rank the trades versus random for each year of the backtest. If the trades score consistently above the 70th percentile then you can guess you've found a edge-based system. If not, then you have to assume you've found a temporal characteristic in the data that can be exploited for some period of time.
I know you're an old (semi-retired) pro, but no way a neural network hits > 70% consistently predicting direction of next day's close. You can take tick data as input or any combination of market sentiment on any timeframe... it's just not possible. Add 'classic' patterns like key day reversals, etc. and you still won't reach 70%.
In fact, I have a means of a obtaining a 1:1 risk-reward by properly selecting the direction of next day's close for major US indexes, for almost as much $ as you want to put on it. The bid-ask can get wider once we're in low-to-mid six figures, givng risk-reward of about 1.25:1.
To clarify, all you need to be correct on is if the next day's close to be + or -. Doesn't matter if you're correct but only 1-tick or 1000-ticks. All that matters is direction of settlement next day's settlement is accurate.
This is a special derrivative I have access to and it's a gold-mine for me hitting just 62% correct. But even at 62% I can not be nearly as aggressive due to MM risk and also the possibility of market phase shift which can temporarily put you at 50% or lower. By the time this is detected and model retrained, I'm risking a larger % per trade on my MAE's so net profit goes down.
The concept of "direction" changes when as a trader you don't care about stops, profit targets, etc. All you need to do is be right by 1-tick or more settlement-to-settlement. It's effectively a 1-day option with fixed payout (all-or-nothing).
The price of option also adjusts wiht off market activity, and spread is wider in evening. I usually have to buy/sell within 45 minutes after closing or within 2-hours before opening (but price has usually moved some overnight so my neural network output is off a little, unless adjusted to add overnight input).
If you're seeing > 70% with any consitency (i.e. avg that over say 100-day period before having to adjust), we can make $100M in 24 months, and I provide all the capital.
