Luck By Design - Part 2

Taking a Simple Mean Reversion System and Mitigating Luck

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Introduction:

In part 1 of this article series, we took a high-level examination of how luck impacts our systematic trading. I reasoned that there are four main contributors of luck we can easily control: timing luck, parameter selection luck, entry/exit rule luck, and universe selection luck. Of course, there are many more contributors to luck involved, but we are going to focus on these four main components as I find them to be the most common.

In this article, we will develop a simple mean reversion system on the SPY ETF. Then, we’ll go back and modify the system to intentionally implement luck controls to ensure luck is on our side as we trade the system. This will increase the robustness and stability of the trading system, as well as the likelihood of continued out-of-sample performance going forward into live trading. Let’s get to it!

If you miss the first article in the series, you can check it out here:

System Idea:

The trading system idea is simple: it’s just an RSI mean reversion system on the SPY ETF. It’s nothing original, and there’s nothing inherently special about an RSI based trading system, but the point isn’t to come up with an original system. The point is to illustrate how to control our luck in systematic trading, so that’s what we’ll do. You can probably imagine how this system will work: buy SPY when RSI is lower and sell SPY when RSI is higher. Essentially, that’s exactly how this system will work, but the intricacies of entering and exiting are a little more unique than your typical RSI mean reversion system. See the complete set of trading rules for this system below: