Optimizing Stock Trading with Trix and DPO: A Guide to Real Trading Robustness
How Walk-Forward Optimization Turns TRGP Stock Strategy into Consistent Profits
Try looking at the TRGP candlestick chart below.
We can see that over the past 5 years, the stock of Targa Resources Corp. (TRGP) has been consistently rising, especially in 2024, which provided high returns, ranking in the top 5% of the S&P 500. Therefore, this time I will create a robust trading system designed for real trading with this stock. But before we proceed, let's first understand the two main indicators we will be using.
Indicators
Trix Indicator: The Trix is a momentum oscillator that smooths out price data using three exponential moving averages (EMA). By subtracting the previous value from the most recent value, Trix indicates the percentage change. Traders often use it to spot trend reversals and to confirm market direction. A positive Trix value suggests an upward trend, while a negative value indicates a downward trend.
Detrended Price Oscillator (DPO): The DPO removes long-term trends by focusing on short-term fluctuations. It is calculated by subtracting a simple moving average (SMA) from the price, allowing traders to examine the cyclical behavior of stock prices without being influenced by long-term trends. The DPO is useful for identifying short-term price patterns.
Walk-Forward Optimization Strategy
Walk-forward optimization is a technique used to test a trading strategy on out-of-sample data. The idea is to train a model on historical data, and then test it on a different set of data, making adjustments as the model progresses over time. This approach helps prevent overfitting, a common issue when using fixed parameters.
The process outlined here applies walk-forward optimization to a stock trading strategy based on the Trix and DPO indicators. It involves the following steps:
Training and Testing Periods: The strategy divides the entire dataset into multiple years, using past data to train the model and then testing it on future data. This is repeated for each year in the dataset, ensuring that each test year is treated as a new, unseen data point.
Parameter Optimization: The Trix and DPO indicators have configurable periods (e.g., 5 to 30 days). The strategy searches through all possible combinations of these parameters using a brute-force approach, evaluating each combination's performance on the training data.
Generating Entry and Exit Signals:
Entry Signals: The strategy generates a "buy" signal when both the Trix and DPO are positive, indicating an upward price momentum.
Exit Signals: A "sell" signal is generated when both indicators turn negative, suggesting a reversal or downturn in the market.
Backtesting: Once the optimal parameters are found for each training period, they are tested on out-of-sample data (the next year) to assess the effectiveness of the strategy. The performance of each test year is measured based on total return, with the best-performing parameter combination used for future testing.
Full Code Here: