DAX Trading Strategy – Why Trade The DAX 40 Index? (How To Trade It – Backtest)
Last Updated on November 29, 2022
Why trade the DAX index and a DAX trading strategy? The DAX index is the main equity index in Germany. It’s one of the most popular trading vehicles in the whole world and has a tremendous daily volume. Because of its popularity, new Mini and Micro-futures contracts have been offered to make it more accessible for smaller retail traders and investors.
Every trader should trade a DAX Trading Strategy of the Greman DAX 40 index because it highly likely offers diversification to your existing strategies. You get diversification from the different trading hours to the US markets, but also because DAX moves slightly differently than the US ones. For example, momentum and gap trading strategies work much better on DAX than on the S&P 500.
What is the DAX 40 (previous DAX 30)?
The full name of the DAX is Deutscher Aktienindex. It consists of the 40 biggest or most liquid blue-chip stocks listed on the Deutsche Börse Xetra. Up until the 20th of September 2021, the index consisted of 30 companies.
The most known companies that currently are in DAX 40 are Adidas, BMW, BASF, Continental, Daimler, Deutsche Telekom, Henkel, Munich Re, Puma, SAP, Siemens, and Volkswagen. These are all multinational brands and some have a history dating back centuries, the reinsurer Munich Re serves as an example.
DAX 40 is a relatively new index and was created as late as the beginning of 1988 when it started trading at 1 000 points (as of writing it’s at 15 500).
How do you trade DAX 40?
You can, of course, trade or invest in the components of the index, but that is not very convenient. The main reason behind derivatives trading is to offer a convenient and easy trading vehicle that lets you hedge or diversify into a basket of stocks.
There are mainly three ways to trade the DAX:
Dax futures is the easiest way to trade DAX 40, and this is what most traders and funds do. It’s a completely standardized contract and the daily turnover is very high at between 50k to 100k contracts per day. It’s one of the most liquid futures contracts in the world.
A futures contract is a contract between two parties about the direction of the DAX. The broker is obliged to make sure the two parties fulfill their part of the obligations. Because a futures contract is, in reality, a bet between two parties, you are not required to come up with the full face value of the contract. You trade futures on margin and you only need to deposit a fraction of the underlying value (the so-called margin). The margin varies from broker to broker and on the current and expected volatility of DAX.
A futures contract is marked to market and hence your trading account gets deducted or added the daily losses and profits throughout the length of your exposure to the contract.
If you have a small account and the position goes against you, you might face what is called a “margin call” where you either have to transfer more money or you are forced to reduce or sell your position. If you don’t comply, the broker might liquidate your position(s) at the market.
The best strategies can be found in our….
Backtested trading strategies
Perhaps needless to say, many futures traders lose all their deposits because of the leverage. Victor Niederhoffer said in The Education of a Speculator that the purpose of small and undercapitalized retail traders is to provide food for the bigger predators further up the food chain. If you trade futures, you better know what you are doing!
Practically all brokers offer access to DAX futures, but the terms and conditions might vary. Please read further below for more info on the specifics of the DAX futures contract.
Another popular investment vehicle is CFDs. Just like futures, CFDs are a derivative and a zero-sum game. It’s a bet between two parties where the broker is the counterparty.
CFDs are mostly traded in the UK due to the stamp tax on stocks, but interest has picked up on the continent as well. Even Interactive Brokers offers CFDs on most indices.
Nevertheless, if you are serious about trading, we recommend futures trading over CFDs. We will cover CFDs in a later article.
The last option to trade DAX 40 is via ETFs, but in reality, most of these are only for investing.
There is an ETF in the US with the ticker code EWG that is pretty liquid, but that ETF tracks a much wider universe of the German market. Furthermore, it trades US hours and not EU hours.
Facts about the DAX futures (FDAX)
DAX futures are traded on an exchange called Eurex and are fully electronic and thus you can trade it from anywhere in the world. The official trading hours for stocks are from 0900 to 1715 local time, which is one hour ahead of London time and 6 hours ahead of New York time.
However, because it’s an electronic contract, DAX futures can be traded from 0750 to 2200 local German time (CET time). This might limit the interest in DAX for non-Europeans, but this is why you want to develop mechanical trading strategies traded via your computer, isn’t it?
There are three futures contracts for DAX: the original, the Mini, and the Micro
- The full and original version that started trading in 1990 (FDAX),
- Since 2019 the mini-version (FDXM), and
- Recently the Micro version (FDXS).
The full version has an underlying value of 25 EUR multiplied by the index ( 25 x 15 500 = 387 500 EUR), while the mini-version is much smaller with a multiplier at 5 EUR (77 500 EUR). The recently added micro version has only one EUR value per point in the DAX (15 500 EUR).
The minimum price fluctuation for all three contracts is 0.5 points.
Just like the index futures in the US, the DAX expires quarterly in March, June, September, and December. The DAX contract settles in cash and thus there is no physical delivery.
Interactive Brokers requires about 10% margin deposits for DAX contracts, which means only 1 500 EUR for the Micro contract, hence making it available to most retail traders.
Why trade DAX? What do DAX trading strategies work?
There are many reasons to trade the DAX index. Keep in mind that this is a very liquid market that offers you easy access to a completely different market for a very low cost: IB offers to trade it for less than 1 EUR per contract. The deep liquidity means you’ll never be ripped off on the hidden cost of slippage in your trading.
One added benefit is that you might be able to diversify into a market that moves slightly differently than US equities. One reason for that is a different economy (export-driven – depends on the EUR), different companies, and a different time frame: the EU markets are mostly traded while US markets are closed.
- Which time frame is best in trading? What time frame should you trade?
- What does correlation mean in trading? (Trading strategies and correlations)
Different types of strategies work better on DAX
Another feature is that other types of strategies work better on DAX than on other indices. For example, we have found setups and trading strategies that don’t work at all in the US but that have worked perfectly for years on DAX.
Mean reversion trading strategies work well on DAX, but we have found breakout strategies, gap strategies, and momentum to work as well. In the future we have planned to present some of these strategies in our monthly Trading Edges:
Our monthly trading edge of November 2021 was an overnight trading strategy for DAX-futures.
The monthly Trading Edge for November 2021: DAX trading strategy
Our first Trading Edge in DAX-futures was published in November 2021. The DAX trading strategy is a night and overnight trading strategy that buys at 1730 local German time/CET and exits at the open at 0900 the next day (still German local time/CET).
The DAX trading strategy is based on the big DAX futures contract. The backtest done without leverage made 0.22% per trade and returned the following equity curve:
From the year 2000, it was 209 trades, the win ratio was 65%, the profit factor was 2, and the max drawdown was 5.1%.
Worth mentioning is that one of the variables in this DAX trading strategy is something that doesn’t work on US equities. This is good because it adds diversification and might reduce correlation in trading.
Click here to access the overnight DAX strategy.
The monthly Trading Edge for November 2022: DAX trading strategy
We made a second DAX strategy in November 2022. This one is also an overnight strategy that enters at the close of the stock market (1730 local German time) and exits the after at 0900 local German time.
The equity curve looks like this:
The average gain per trade is 0.23% and we have 303 trades. Click here to access the DAX strategy.
Backtest, settings, and trading rules in DAX
DAX is a fantastic trading vehicle because it has lots of liquidity and volatility. We trade multiple overnight trading strategies ourselves and the profitable trading strategies have worked consistently over many years.
The best part is that both the trading rules and the settings are very different from S&P 500 futures. Any DAX trading strategy correlate somewhat with the S&P 500 but much less than people imagine.
Seasonal DAX trading strategies
Let’s end the article with a few seasonal DAX trading strategies and patterns in DAX 40: