Online Tools for Demonstration of Backtest Overfitting

13 Pages Posted: 23 Apr 2015 Last revised: 1 Dec 2015

See all articles by David H. Bailey

David H. Bailey

Lawrence Berkeley National Laboratory; University of California, Davis

Jonathan Borwein

University of Newcastle (Australia); Royal Society of Canada; Australian Academy of Science

Amir Salehipour

University of Technology Sydney, Australia

Marcos Lopez de Prado

AQR Capital Management, LLC; Cornell University - Operations Research & Industrial Engineering; RCC - Harvard University

Qiji Jim Zhu

Western Michigan University

Date Written: November 29, 2015

Abstract

In mathematical finance, backtest overfitting relates to the usage of historical market data (a backtest) to develop an investment strategy, where the strategy profits from random patterns rather than variables’ signals. Backtest overfitting is now thought to be a primary reason why quantitative investment models and strategies that look good on paper often disappoint in practice.

In this study we introduce two online tools, the Backtest Overfitting Demonstration Tool, or BODT for short, and the Tenure Maker Simulation Tool, or TMST, which illustrate the impact of backtest overfitting on investment models and strategies. We describe BODT and TSMT, the experiments they perform, together with technical details such as the evaluation metrics and parameters used.

Keywords: Backtest overfitting, multiple testing, Sharpe Ratio, Deflated Sharpe Ratio, investment strategy

JEL Classification: G0, G1, G2, G15, G24, E44

Suggested Citation

Bailey, David H. and Borwein, Jonathan and Salehipour, Amir and López de Prado, Marcos and Zhu, Qiji Jim, Online Tools for Demonstration of Backtest Overfitting (November 29, 2015). Available at SSRN: https://ssrn.com/abstract=2597421 or http://dx.doi.org/10.2139/ssrn.2597421

David H. Bailey

Lawrence Berkeley National Laboratory ( email )

1 Cyclotron Road
Berkeley, CA 94720
United States

HOME PAGE: http://www.davidhbailey.com

University of California, Davis ( email )

One Shields Avenue
Davis, CA 95616
United States

HOME PAGE: http://www.davidhbailey.com

Jonathan Borwein

University of Newcastle (Australia) ( email )

University Drive
Callaghan, NSW 2308
Australia
+61 2 4921 5535 (Phone)

HOME PAGE: http://www.carma.newcastle.edu.au/jon

Royal Society of Canada ( email )

282 Somerset West
Ottawa, Ontario K2P 0J6
Canada

Australian Academy of Science ( email )

Ian Potter House
Gordon Street
Acton, ACT 2601
Australia

Amir Salehipour

University of Technology Sydney, Australia ( email )

Ultimo
Ultimo, NSW 2007
Australia

Marcos López de Prado (Contact Author)

AQR Capital Management, LLC ( email )

One Greenwich Plaza
Greenwich, CT 06830
United States

HOME PAGE: http://www.aqr.com

Cornell University - Operations Research & Industrial Engineering ( email )

237 Rhodes Hall
Ithaca, NY 14853
United States

HOME PAGE: http://www.orie.cornell.edu

RCC - Harvard University ( email )

1875 Cambridge Street
Cambridge, MA 02138
United States

HOME PAGE: http://www.rcc.harvard.edu

Qiji Jim Zhu

Western Michigan University ( email )

Kalamazoo, MI 49008
United States

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