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Back testing is the examination of past performance to predict the future price of an investment. Back testing can incorporate a variety of indicators (i.e. earnings, inflation, interest rates, breadth, etc.). A simple example of back testing can be used to determine which years of the presidential cycle are best for stock appreciation? With back testing, it has been discovered that the Dow Jones Industrial Average has tended to outperform during the pre-election and election year of a presidential cycle. Increases in computing power and software sophistication have increased the ease by which an investor can perform back testing. However, when back testing, investors need to take care to ensure that the results are statistically significant and not curve fit.
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