ABSTRACT
This chapter introduces the notations and framework that will be used when analyzing and comparing investment strategies. Portfolio backtesting is often conceived and perceived as a quest to find the best strategy or at least a solidly profitable one. Transaction costs can then be proxied as a multiple of turnover (times some average or median cost in the cross-section of firms). In the same vein, the transaction cost-adjusted Sharpe ratio of a portfolio is given by Transaction costs are often overlooked in academic articles but can have a sizable impact in real life trading. In Bailey and de Prado, the authors even propose a statistical test for Sharpe ratios, provided that some metrics of all tested strategies are stored in memory. The chapter considers only two strategies: one machine learning-based and the equally weighted (1/N) benchmark. It builds a function that is able to generate performance metrics for simple strategies that can be evaluated in batches.
