Backtesting
The process of testing a trading strategy on prior time periods. Instead of applying a strategy for the time period forward, which could take years, a trader can do a simulation of his or her trading strategy on relevant past data in order to gauge the strategy’s effectiveness. Most technical analysis strategies are tested with this approach. When you back-test a theory, the results achieved are highly dependent on the movements of the tested period. Back-testing a theory assumes that what happens in the past will happen in the future, and this assumption can cause potential risks for the strategy.
Backtesting is a term used in modeling to refer to testing a predictive model on historical data. Backtesting is a type of retrodiction, and a special type of cross-validation applied to previous time period(s).
