Quantitative Trading Strategies

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My Reasons for Writing This Book
Like the quote above, this book is about risk. The focus of this book is to develop
trading strategies that buy and sell financial assets while managing the risk associ-
ated with these positions. While we have no idea if our next trade will be a winner
or loser, by using quantitative tools to identify reward and risk, we can diminish risk
while maintaining expected gains. This is the key to long-term trading success.
Most of the tools in this book have been studied over the past 50 years by academ-
ics and have been employed by Wall Street professionals over the past 20 years.
Unfortunately there has been a gap when it comes to explaining and teaching these
techniques to the investing public. This book attempts to fill that void by present-
ing the advanced concepts in systematic trading, risk management, and money
management that have long been missing.
First and foremost, this book explores the ability of quantitative trading
strategies to time the markets. Quantitative trading strategies are a combination of
technical and statistical analysis which, when applied, generate buy and sell signals.

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These signals may be triggered either through price patterns or values of complex
indicators calculated from market prices. Once these trading strategies are formed,
their performance is tested historically to validate the trading ideas. Essentially, we
determine if a strategy has worked in the past. If a strategy has generated profits
historically, this gives credence to future performance. After the performance is
tested, we select the markets to be traded. By trading a widely diversified port-
folio, we are able to minimize our risk while maintaining expected reward.
Developing the idea, testing historical performance, and picking markets to trade
are a few of the many techniques required for efficient and profitable trading
strategies. While a few books have touched on various areas of the development
process, I believe this book is the first to fully capture all the nuances of the trad-
ing process. While some books provide anecdotal evidence based on one or two of
the author’s experiences, this book backs up concepts with theoretical explanation,
real life results, and references to academic research. My goal in writing this book
is to set the record straight with time-tested statistics—not with untested theories
and market lore passed down through the ages.
A New Approach for Analyzing Markets
There are numerous methods being used to analyze the markets. Most investors
and traders will look at fundamental data to assess whether they believe the mar-
ket is going to move higher or lower. In the equity markets, investors will look at
earnings, product sales, and debt loads to determine a company’s fair valuation. A
comparison of this valuation to business prospects then determines a fair valuation
for the company. In commodities, investors will look at trends in supply and
demand. Poor weather conditions can hurt a crop outlook and raise prices. Lack of
end demand during a recession can cause prices to fall. Studying these fundamen-
tal factors is the most common method of analyzing markets.
Another growing method of analysis is technical analysis. Technical analysis
does not attempt to predict market movements based on fundamentals. Instead,
technical analysts believe that one market participant, however well informed, is
unlikely to have better information than the combination of all other market par-
ticipants. As a result, technical analysts believe that price action is the best source
of information. Market forecasts are made using chart patterns, most of which
have been studied over decades. Catchy names such as “head and shoulders top,”
“symmetrical triangle,” and “trendline” are a large part of the technical analyst’s
toolbox. Typically, the technical analyst relies on a good bit of discretion for his or
her trading ideas. While a pattern may look like a buy signal to one technical ana-
lyst, another may see a different pattern emerging and actually be preparing to sell
the market.

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