One of the key elements in achieving a profitable trading portfolio, is the need to have a well thought out, personalised trading plan.
Trading can be a very emotional and stressful experience. Having to make sound trading decisions without any previous planning is really a recipe for disaster. If you already know what you want to do for all outcomes before you place your trade, the execution will be far easier and less emotionally driven. So how do you create a personalised trading plan?
The objective is to create a plan that is tailor made for you and one that takes into account your personal goals, your personality, strengths and resources.
We’ve outlined 6 essential steps for developing your trading plan to help keep you on track to achieve consistent and profitable trading results.
1. Define Your Reasons & Goals for Trading
To develop a trading plan, you need to have a strong understanding of why you are actually trading in the first place and what your objectives are. This will not only help you to set realistic and personalised goals but will also motivate you to achieve them, and provide benchmarks for reviewing, comparing and improving your trading results.
Think about setting SMART goals, which are specific, measurable, attainable, realistic and timely. Your original goals can then be measured against your future results to see where/if you need to adjust your strategies.
Once you have reached your goals, it’s important to consistently review, update and adjust as necessary for your current situation, much like you would a business plan.
Get your trading off to the right start by reading our 5 Things You Need to Know Before You Start CFD Trading
2. Your Trading Style
There is no “right” or “wrong” way to trade. Your trading style will largely depend on your own personality, your current strengths and resources and ultimately your underlying trading goals. You also need to consider the timeframe you want to hold your trades and your preferred position size based on your available capital.
Furthermore, you have to know what markets you wish to trade. Your personal trading style, the time you wish to spend trading and your financial resources will all contribute to the market that will best suit you as an individual trader.
Do your research on the types of markets that are available and their specific characteristics. Then align these features with your own preferences until you find one that suits you.
3. Your Skills, Knowledge, Resources & Gaps
Having a strong understanding of your own strengths, weaknesses and where your knowledge level is currently at will give you a good starting point to know which direction you need to head in and where you have knowledge or skill gaps.
There are a number of ways you can address the gaps you may hav including finding a mentor, trading courses, reading books or even blogs or live streams like TradeSetup’s daily live video and chat service.
A caveat here; You need to do your homework before subscribing to courses or membership sites. Make sure the person running the course or site is a professional trader making their primary income from trading. There are many authors or course providers who make their money selling their trading strategies rather than from actually trading their trading strategies!
Evaluate what you know well and what you don’t, that way you will know where to improve and what to focus your time and energy on in regards to education.
Remember, education is a key factor to successful trading.
When considering resources, your plan needs to address the four following areas to audit your current situation and where any gaps may be so they can be dealt with;
Time: Job and/or family to work around, night owl or morning person, intraday trading or longer term
Financial: Capital available, borrowed funds, income, risk level, position size
Physical assets: Quiet area, computer screens, good internet connection, filing, chair and desk
Personal attributes: Personality, trading style, discipline, computer skills, self belief, persistence.
Become a master at reading the markets with our 3 part series;
4. Review Progress & Assess Success
Look to focus on specific outcomes relating to your trading, rather than just financial goals. If you concentrate on building a robust trading strategy, consistently applying, reviewing and improving this strategy, plus building and improving your trading ability and skills, then your financial rewards will surely follow.
Two important statistics to consider include;
1. Your win/loss ratio: Measure of the number of times you have a winning trade as compared to your number of losing trades. To calculate your win/loss ratio, use the following formula:
Number of winning trades / Total number of trades x 100 = Win/Loss Ratio
The ratio is expressed as a percentage. For example, if you executed 50 trades and found that you had made a profit on 30 of them, then you win/loss ratio would be 30/50×100 = 60%. This means for every ten trades you enter using this particular trading strategy, on average six will be profitable and 4 will be losses.
2. Your edge ratio: Measure of the size of your winning trades compared to the size of your losing trades. A high edge ratio will indicate that you keep your losses very small and let your winners run to large profits. A low edge ratio will indicate that the average value of your losing trades is high when compared to the average value of your winning trades.
To calculate your Edge Ratio, use the following formula:
Total value of Losing Trades / Number of Losing Trades = Average value of Losing Trades
Total value of Winning Trades / Number of Winning Trades = Average value of Winning Trades
As with all statistics, you need to ensure you have enough data in your sample when calculating your results to ensure it is statistically valid. Ideally, a set of least 50 trades should be collated before calculating your statistics. This will even out unusual trades or streaks that may skew your results in a small sample of trades. However, if you are a longer term trader with a low volume of trades, a sample of 20 trades should be sufficient.
Incorporating this guideline will allow you to effectively evaluate your results and compare these to your desired goals that were previously set.
5. Determine your trading risk
Managing your risk in trading is essential if you wish to make profitable investments.
As a trader, you can’t control the market but you do have the capacity to change what you do as circumstances require. You need to adapt as the market conditions evolve. You don’t take a position and hope the market acts in your favour. Managing your trading risk will be a key factor in your long term success as a trader.
As the market structure changes, the risk profile of your trade will also change.
Risk will vary at different points of a trade and needs to be managed in a manner which is consistent with the individual style of each trader. This will be dependent on each trader’s personality and time frame.
Assessing market conditions can be categorised into core areas where you need to consider the risk profile in your trade. This risk needs to also be assessed in line with your trading objectives. Active traders will tend to add and take off risk for each new swing in the market, whilst passive investors will ride minor retracements looking to achieve larger reward targets.
Here are some areas where risk can be managed throughout a trade as well as what to look out for at these points that indicates your risk is increasing;
- At Entry: Stop loss risk.
- Distance from Moving Average: Price exhaustion risk.
- “M” Pattern: Price retest failure risk.
- Candlestick Tails and Shadows: Price rejection risk.
- Period Close: Price rejection risk.
- Reducing Range: Trend momentum risk.
- Support or Resistance: Price level failure risk.
How you plan to address your risk management needs to be included as a critical part of your trading plan in order to protect your capital and preserve your profits. You need to have strategies in place for how you’ll deal with the different areas throughout a trade and how you’ll know when risk is increasing to a point where action needs to be taken either to protect profits or capital.
Need help developing risk management techniques? Read our how to guide here
6. Develop Trade Management Rules
As with any business, money management, or in the case of trading, trade management, is a crucial element that needs to be addressed in your trading plan.
Having a robust trading plan with predetermined trading rules will allow you to subjectively act in response to market changes. Trading is not about winning all the time, it is about effectively managing your trades, whether they are winners or losers. Unfortunately, many come to trading with a gambling mentality and do not exploit the advantages available when managing trades.
Don’t risk one cent on the market until you have clearly defined each of your trade management rules.
Following are seven trading rules which you must determine for each and every trade you make and some potential considerations for each:
- Initial Stop Loss
- Position Size
- Trailing Stop Loss
- Adding (Position Building)
- Profit Taking Exit Strategies
For each one of these rules you must have a pre-defined trading plan. You must know when you will enter the trade and execute your entry when the criteria are met. You must know your initial risk for each trade as determined by your initial stop loss before you risk any money on the market. You must plan when you will add to your winning positions and how you plan to exit your winning trades.
It’s not effective to determine your trading plan while in the trade. Emotional and psychological factors will influence your judgement and affect your decisions.
The second step to setting your trade management rules is to STICK TO YOUR TRADING RULES. This is paramount. Even if your trades are unsuccessful, follow your plan! If you don’t follow your plan, you have no basis from which to learn, review and improve.
Adopting rules such as these and implementing these into your trading plan will help you to not only effectively manage your trading portfolio, but also assist in protecting you from extreme financial losses.
The Bottom Line
Developing a personalised trading plan that facilitates for your specific needs and goals is one of the most important factors in trading. Through the development of this resource you will learn how yourself as a trader best operates and what style best suits your specific preferences. Having a guide will allow you to remain cool, calm and collected during the live trading day and will ensure that the cognitive decisions you make prior to the opening of the markets when you’re in a sound mindset will be followed through on no matter what the environment you’re in.
Kickstart your trading by reading our 3 Easy Steps to Start CFD Trading