The Perks of Planning
One of the biggest mistakes that many new traders make when they first begin trading is to approach the markets in a haphazard fashion without a plan. As all successful traders will tell you, having a solid plan with clear strategy rules, risk management and psychology guidelines, is to key to achieving success in trading.
To develop a solid trading plan with clear rules, traders need to first of all back-test and establish clear parameters for their trading strategy. They need to know exactly what setup they are looking for, in which market conditions, exactly how to enter the trade, at what size, with what stop loss and with what target.
All of the above parameters need to be identified from a thorough back-testing period to give the trader confidence in executing the trading rules. Having clear rules in place makes it easier for the trader to then stick to their strategy during live trading conditions and avoid deviating from their rules.
Dangers Of Trading Without A Plan
Many traders that begin trading with a plan “in their head” and no clear rules written down, often find that they end up deviating from their plans and trade to the detriment of their strategy. Some of the common mistake that traders make when trading without a plan come down to risk management.
Typically they will trade in varying size and with varying stop size depending on how they feel about the setup which leads to un-even distribution of returns. Furthermore, they will have no clear plan on how to exit the market and either end up exiting trades too early because they want to bank profits, or holding trades too long through greed and allowing price to come back on them.
Considering Special Conditions
Having clear rules written down in a check-list format make it far easier for traders to approach the market in a planned, methodical way instead of simply reacting to the market and making decisions under pressure which ultimately end up hurting their results.
This can be especially useful when it comes to considering “special trading conditions” and traders need to take extra time to properly think about these conditions and build safety clauses into their plan to help them react to special situations.
Most trading plans cover the basics of entry, stops, targets and risk management but where traders can really improve their chances of success is in considering special trading conditions.
These conditions include situations such as: What do I do if I get stopped out then price reverses and moves back through my entry, do I re-enter? What do I do if price gets very near my target and then starts to reverse; do I have a certain level on the way back to entry that I will exit at? What do I do ahead of key news events; do I move stops, reduce position sizing etc? If I move my stop to break-even and get stopped out then price reverses and trades back through entry, do I re-enter?
These are the types of situations that often catch traders out. Typically, traders that have a solid trading plan with clear rules which consider these sorts of situations, have a far higher chance of being successful and maintaining profitability. Traders who have a plan in their heads and simply react under pressure often get whipsawed by their emotions and make the wrong decisions in these situations.
As with back testing strategy rules, traders need to take the proper time to consider these different situations, looking through their charts and identifying the best way to respond. This exercise, and the creating of rules for these situations, will help traders avoid making sporadic and emotional decisions which often lack uniformity and damage their strategy returns.