Using Particle Swarm Optimization for Market Timing Strategies

Abstract

Market timing is the issue of deciding when to buy or sell a given asset on the market. As one of the core issues of algorithmic trading systems, designers of such system have turned to computational intelligence methods to aid them in this task. In this thesis, we explore the use of Particle Swarm Optimization (PSO) within the domain of market timing.nPSO is a search metaheuristic that was first introduced in 1995 [28] and is based on the behavior of birds in flight. Since its inception, the PSO metaheuristic has seen extensions to adapt it to a variety of problems including single objective optimization, multiobjective optimization, niching and dynamic optimization problems. Although popular in other domains, PSO has seen limited application to the issue of market timing. The current incumbent algorithm within the market timing domain is Genetic Algorithms (GA), based on the volume of publications as noted in [40] and [84]. In this thesis, we use PSO to compose market timing strategies using technical analysis indicators. Our first contribution is to use a formulation that considers both the selection of components and the tuning of their parameters in a simultaneous manner, and approach market timing as a single objective optimization problem. Current approaches only considers one of those aspects at a time: either selecting from a set of components with fixed values for their parameters or tuning the parameters of a preset selection of components. Our second contribution is proposing a novel training and testing methodology that explicitly exposes candidate market timing strategies to numerous price trends to reduce the likelihood of overfitting to a particular trend and give a better approximation of performance under various market conditions. Our final contribution is to consider market timing as a multiobjective optimization problem, optimizing five financial metrics and comparing the performance of our PSO variants against a well established multiobjective optimization algorithm. These algorithms address unexplored research areas in the context of PSO algorithms to the best of our knowledge, and are therefore original contributions. The computational results over a range of datasets shows that the proposed PSO algorithms are competitive to GAs using the same formulation. Additionally, the multiobjective variant of our PSO algorithm achieve statistically significant improvements over NSGA-II.