Planning forms an integral part of any successful endeavor. This is especially true when it comes to trading the financial markets.
With so many different variables, traders need to have a structured trading approach. That is why developing a trading plan is so important.
Every trader is different. We all have different skills, personalities and expertise.
Not all traders have the same available time or the same desired goals. Some people approach risk taking differently than others.
For this reason, there is no generic trade plan that will work for everybody. That’s why it’s important for every trader to design his own.
In this article, we’ll discuss the following points:
- What is a Trading Plan?
- Why we need a Trade Plan?
- Start with the practical stuff first
- Be clear about your objectives
- Define your methodology
- Analysis Section
- Determine your risk parameters
- Review your performance
What Is A Trading Plan?
The CME Group describes a trading plan as ‘a business plan for your trading career’. You wouldn’t start a business without a business plan, would you?
Think of it as your business plan for your trading business. It’s your blueprint for how you will approach the market.
According to IG, this plan may include things like the following:
- Your trading goals
- What your reasons are for trading
- What strategies you will use
- How much you’ll risk per trade
- The time you commit to trading
- How you plan to manage risk
This is just a short list, but this should give you a broad idea. Also remember that a trading plan is vastly different from a trading strategy.
A trading system or strategy just explains the ways we look to enter and exit trades. The trading strategy used is just one part of a good trading plan.
Why We Need A Trade Plan
In a recent study, it was found that 39% of projects fail due to a lack of planning. If we don’t plan, we run greater risk of not achieving our goals.
Now, there is nothing wrong with trading as a hobby. However, if you plan to trade for a living or to manage funds you need to take it seriously.
A lot of traders fail to see their trading as a business. As a result, they approach their trading more like a hobby.
At that level, it’s not a hobby, it’s a business. As such, it requires a properly thought-out plan.
Think of your trading plan as your GPS for your trading business. It will help to guide you to where you want to go and help you stay on track.
Additionally, you need a plan that makes trading fit in with your personality. Every person is different and will need a personalized plan.
Having a plan means you already know how you should react in different scenarios. This allows you to approach the market with more objectivity.
This is important as it helps to keep the emotions in check and trade more disciplined. It’s true that a plan won’t keep you from making mistakes.
However, it will keep you from making too many impulsive decisions. It will also aide you in forming more constructive trading habits.
It will help us to focus on the process of trading and not only the outcomes. If you are prone to cutting winners short or letting losers a trade plan can help with that.
Start With The Practical Stuff First
A very important point in your trading plan is to be practical. If you design a plan that is impossible to execute it won’t help you.
For example, don’t plan to spend five hours a day trading when your schedule only allows for one. Don’t make commitments in your plan that you can’t keep.
This will be very counter-productive and de-motivating. Thus, don’t plan to be a Day-Trader if your time only allows you to be a Swing-Trader.
Your personality is also important here. If you are unable to emotionally deal with shorter timeframes, then Day-Trading is not for you.
Also be practical about your skill level. If you are a novice trader don’t expect professional results.
As a beginner you’ll need a lot more time to build up your skills and knowledge.
Be Clear And Honest About Your Objectives
This deals with the reasons why you are trading. Don’t underestimate the importance of acknowledging the reasons why you want to trade.
Trading can be a very challenging endeavor, even for the best in the industry. The markets can be ruthless at times and don’t care who we are or what we know.
During times of drawdown and successive losses we may need to dig deep to find motivation. This is where clear objectives will help you a lot.
Try and find something more than just monetary advantages for your trading objectives. Going a bit deeper and a bit more personal can help us achieve goals through difficult times.
Most people would agree that their goal in trading is to make money. That is fine and there is absolutely nothing wrong with that.
Maybe you want more money so that you can provide a better life for your family. These are better motivators for our goals.
Also, be careful about having strict performance related goals. For example, many traders have a goal of making 1 to 2% every month.
Fixating on a specific percentage or monetary return can impact your trading negatively. Traders can decide to abandon their process just to reach their monthly targets.
Rather focus your goals on becoming consistent in your process. That should yield more profits in the long run.
Define Your Analysis Methodology
Broadly speaking, there are two main methods used to analyze the markets. According to Investopedia, they are known as Fundamental Analysis and Technical Analysis.
So, what is the difference between these two methodologies?
Fundamental Analysis attempts to identify the true value of a currency. Traders look for the reasons behind why prices are moving in a specific direction.
Some of the elements that are used in this methodology are:
- Economic performance
- Central bank policy stance
- Interest Rates
- Intermarket Analysis
Technical Analysis attempts to identify future price moves by evaluating price charts. Charts are visual representations of the way prices have been moving.
This involves studying patterns on the charts which indicate possible future price direction. Some of the elements that are used in this methodology are:
- Price Charts
- Support & Resistance
- Fibonacci Tools
- Technical Indicators
For us the best approach is one that incorporates both trading methodologies.
In our own trading, we use Fundamental Analysis to show us which pairs to trade and why. Then we use Technical Analysis to show us where to place our entries, stop losses and take profits.
We believe Fundamental Analysis is the best way to achieve consistent profitability. Understanding the reasons why the markets are moving is essential to your success.
There is no such thing as a perfect trading strategy. Majority of strategies will have pros and cons.
Just make sure to give yourself enough of an edge by using both analysis methodologies. Try keeping your strategy as simple and process orientated as possible.
In this part of our trading plan we need to establish how to go about doing our actual analysis.
We prefer splitting the trading day into three different phases namely:
- Knowledge Phase
- Analysis Phase
- Execution Phase
We’ll now take some time discussing each of these in more detail.
This is the part of our trading plan where we need to acquire knowledge. Gathering information about what the market is currently focusing on is essential.
A good place to start is by reading up on research articles about the markets. This usually helps you see what other analysts are focusing on and why.
When reading articles try to identify the currencies the analysis is looking at. Find out where they think the currencies are likely headed and why.
Another good place to go to during the knowledge phase of the trade plan is a live news feed. A news feed is basically a news aggregator.
It scans through financial markets and aggregates all the important info. It’s one of the quickest ways to catch up on the sentiment that is driving the markets.
Then there are also Economic Calendars. These should be the cornerstone of your knowledge acquisition every day.
They provide us with the dates and times for important economic data releases. In a study done by CME group,
A CME group study revealed that economic releases cause significant spikes in volatility. Knowing when these events will take place in advance is essential.
In addition, there is also your price charts. Scan through your price charts and see whether there are any big moves.
Are there any currencies in your research that made substantial moves? This can help with your analysis in the next phase.
After the knowledge phase, your trading plan can move to the Analysis phase. This needs to take place before any trades are executed.
The better you conduct your analysis the better your overall results will be. In this phase, you take all the knowledge you acquired and analyze it for opportunities.
There are a couple of questions you can add to your trading plan to help you with this:
- Can I identify the main themes which drove the markets yesterday?
- Are there any clearly identifiable strong and weak currencies at present?
- Will my trade ideas be pairing a strong currency with a weak?
- What type of important economic data is coming up that I should be aware of?
- Does my Technical Analysis give me a suitable entry location?
- Am I sure the sentiment in the market is enough to move price in my direction?
These are great questions to incorporate into your trading plan’s analysis phase.
This is where you look to execute your trade ideas. The focus here is on trade execution.
Your plan may include things like where to place your stop losses and take profits. A lot of people want to decide how much they will risk at this stage.
However, that opens a trader up to a lot of emotional issues. It would be best to have a pre-determined risk level so that you know exactly what to risk.
Determine Your Risk Parameters
This is a crucial step in any trade plan. Even the best of strategies can fail if a trader does not follow solid risk management practices.
In this step of your trading plan you need to evaluate your attitude towards risk. Everybody deals with risk in different ways.
The last thing you want to do is choose how you handle risk with every trade. Impulsive risk management will surely lead to bad outcomes.
You want to make sure you know exactly how much you are comfortable risking with each trade. Whether that is 1% or 2% make sure you know what it is and stick to your plan.
Below is a couple of risk management points you should consider in your trading plan:
- How much are you willing to risk for each individual trade
- With what leverage are you comfortable to trade with
- How many trading positions are you prepared to have open at any given time?
- What is the absolute drawdown you’re prepared to have on your account?
Don’t underestimate the importance of having a risk management plan. Having a pre-determined plan will help you from taking bad impulsive decisions.
Review Your Performance
The last section of your trading plan can include a review section. Trading can take up a lot of our time during the day.
As a result, most traders just don’t make the effort to review their trading performance. Taking some time away to review your trades can help a lot in your development.
Without keeping a record, you might not even be aware of repeated mistakes.
Some analysts recommend doing a daily post-mortem of your trading day. You’ll be surprised how many times traders end up making the same mistakes.
Maybe you keep placing stops too tight. Maybe you tend to jump in too early.
A good review process after a trading day can assist with identifying mistakes.
The last step in your trading plan is to make up mind. What do we mean by this?
Make up your mind to follow your trading plan. If you’re going to go through the trouble to draft a plan, make sure to follow it.
A trading plan will never guarantee that you’ll have success in trading. But you have a far greater chance of success by having one.
Here is a quick recap of what you can do to write your trading plan today:
- Start with the writing down why you want to be successful in your trading.
- Write down the goals you would like to achieve from your trading.
- Be clear about your trading strategy and methodology
- Make sure to include both Fundamental and Technical analysis in your strategy
- Write down your own preferences towards risk and risk management in your trading
- Try to review your performance regularly
- Make up your mind to follow your plan with discipline
The info shared in this article should help you to write a personalized trading plan. Don’t get discouraged the first couple of times you go through your plan.
The more you practice following it the easier it will become.
We wish all of you great success in writing your trading plan and in your trading.
If you found this article helpful or have any questions, we would love to hear from you. Feel free to drop us a comment or question below.