Trading, Investment & Portfolio Management Interactive Qualifying Project Report Submitted to the Faculty of WORCESTER POLYTECHNIC INSTITUTE In fulfillment of the requirements for the Degree of Bachelor of Science Submitted By: Alex Presnal Nikhil Godani Nicholas Comeau Advisors Prof. Hakim Hossein Prof. Michael J. Radzicki Submitted: May 29, 2013 Abstract The primary objective of this project was to develop a fully-functional, automated trading system that generates profit, while gaining knowledge and insight about the methods and theories associated with trading in the process. The early portion of this report will encapsulate the knowledge we’ve retained throughout the duration of this project, such knowledge is crucial to understanding the complex nature of trading, specifically focusing on the Foreign Exchange (Forex) Market. Once the vital background knowledge pertaining to trading in the Forex Market has been thoroughly elucidated, the report proceeds to explain the methodology behind developing a trading system. After this methodology section, the report than provides a detailed explanation of the specific aspects of the trading system developed by each individual within our group, as well as the results of each of these trading strategies. Lastly, this report delves into the focal objective of the project; discussing every facet in the scientific methodology taken to generate our group’s final automated trading system, as well as detailed results. The report is then wrapped up with a conclusion that summarizes all that we have learned throughout the course of this project, as well as several recommendations of how this excellent project can be improved further. ii Table of Contents Abstract ................................................................................................................................................................. ii Table of Contents ................................................................................................................................................. iii List of Figures: ..................................................................................................................................................... vi List of Tables ..................................................................................................................................................... viii Chapter 1: Introduction ......................................................................................................................................... 1 1.1 Project Description ............................................................................................................................... 3 Chapter 2: Background Information ..................................................................................................................... 5 2.1 Common Trading Terms ............................................................................................................................. 5 Forex ............................................................................................................................................................. 5 Stock ............................................................................................................................................................. 7 Shareholder ................................................................................................................................................ 10 Bond ........................................................................................................................................................... 11 Options ....................................................................................................................................................... 13 Futures ........................................................................................................................................................ 13 Exchange Traded Funds (ETFs) ................................................................................................................... 15 Mutual Fund ............................................................................................................................................... 18 Pip (percentage in point) ............................................................................................................................ 19 Leverage ..................................................................................................................................................... 19 Lot Size ........................................................................................................................................................ 20 Bid Price ...................................................................................................................................................... 20 Ask Price ..................................................................................................................................................... 20 Spread Trade .............................................................................................................................................. 21 Short/Long .................................................................................................................................................. 21 Currency Pair .............................................................................................................................................. 22 Margin Call .................................................................................................................................................. 22 Stop Loss ..................................................................................................................................................... 23 Profit Target ................................................................................................................................................ 23 List of Currencies ........................................................................................................................................ 23 2.2 Fundamental Analysis .............................................................................................................................. 24 2.2.1 Gross Domestic Product .................................................................................................................... 24 2.2.2 Interest Rates ..................................................................................................................................... 26 2.2.3 Inflation ............................................................................................................................................. 27 2.2.4 Unemployment .................................................................................................................................. 28 iii 2.2.5 Resources and Commodities ............................................................................................................. 30 2.2.6 Economic and Political News ............................................................................................................ 30 2.3 Technical Analysis.................................................................................................................................... 31 2.3.1 Bollinger Bands ................................................................................................................................. 32 2.3.2 Fast Stochastic Oscillator .................................................................................................................. 33 2.3.3 Stochastic Oscillator Slow ................................................................................................................. 34 2.3.4 Parabolic SAR ................................................................................................................................... 36 2.3.5 MACD ............................................................................................................................................... 37 2.3.6 Relative Strength Index ..................................................................................................................... 38 2.3.7 Moving Averages .............................................................................................................................. 39 2.3.8 Pivot Point ......................................................................................................................................... 40 2.3.9 Hammer and Hanging Man Patterns .................................................................................................. 40 2.4 Introduction to Trading Platforms ............................................................................................................ 42 2.4.1 MetaTrader4 ...................................................................................................................................... 43 2.4.2 Trade Station ..................................................................................................................................... 45 2.4.3 Comparative Analysis of MT4 and TradeStation .............................................................................. 48 2.5 Money and Risk Management .................................................................................................................. 51 2.5.1