7. How to Measure Performance

So far, most of the backtests in this book have focused on returns. This is the most obvious (and easiest) performance measure. It is intuitive, as cumulative returns represent what an investment will grow to in dollar terms.

However, you could potentially make a number of improvements to this measure. For example, simply measuring returns does not consider the risk involved in a strategy. Consider the two following strategies shown in Figure 7.1: safe and risky.

Image

Figure 7.1 Safe versus risky strategies that make the same returns

These graphs show the cumulative returns (R) over time (T) for the two strategies. Although ...

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