The Trader’s Plan
By James Stanley
“Good fortune is what happens when opportunity meets planning.”
- Thomas Jefferson
“Reduce your plan to writing. The moment you complete this, you will have definitely given concrete form to the intangible desire.”
- Napoleon Hill
Finding quotes exuding the benefits of planning is not hard to do. Above are just two of the more common, reverent quotes exalting the benefits of planning. Or there is this one:
“He who fails to plan, plans to fail.”
However you want to look at it, or whomever you may want to listen to, the benefits of planning can be profound; particularly when embarking on a difficult activity. It can give form to the process that, hopefully, will help us achieve our goals.
In this article, we will look at the ‘Trader’s Plan,’ and many of the elements that traders look at to outline their plans.
The Trader’s Plan can differ greatly between traders, often around personal preferences and maybe even more importantly - goals. For this reason, I choose to start my trading plan with my daily goal. This is the first line in my plan – and functions as a reminder of what it is that I want to accomplish in markets on a daily basis. I color and keep this line ‘green,’ so that it sticks out on my plan. At quick glance of the plan, the green goal sticks out – further reminding me of what my job for the day is.
New traders will often ask how many pips they should target when first getting started out. I recommend that new traders on the demo should look to be profitable, setting initial goals small and increasing as experience and comfort builds. Trading can be tough, and setting extremely lofty goals could end up becoming a discouraging element of the plan. Goals should be realistic, attainable, and worthwhile all at the same time. These can differ greatly from trader to trader; but realistic expectations are of extreme importance to the plan, and to the approach. This will often dictate the rest of the plan, so I start the plan with this line item of my daily goal in ‘Pips.’
When am I going to trade?
This is probably one of the most neglected parts of trading plans that I’ve seen. The FX Market is open 24 hours a day and many traders want to use this to their benefit. The fluid nature of price being traded around the clock is a compelling prospect for traders, particularly those such as myself that came from other markets such as equities or commodities; markets in which gap risk can greatly influence a trading approach. Since FX is open 24 hours a day, there are fewer gaps simply because the market doesn’t close as often as most equities, futures, and commodities markets.
An important element of note is that the various trading sessions can exhibit different ‘characteristics,’ around the way that prices move.
In the article “When is the Best Time of Day to Trade Forex?” by David Rodriguez and Tim Shea, they examine the ‘Tokyo,’ trading session specifically; using actual statistics of clients at FXCM.
David and Tim propose the thesis statement that movements in price can potentially be smaller during the Tokyo Trading session, and, as such, may be more accommodative for newer traders.
David and Tim first establish that average price moves of a target currency during the Tokyo Session (in this study David used EUR/USD) could be smaller than that of other trading sessions, or times of the day.
David and Tim’s research comes to the conclusion that range strategies, such as the RSI example used in their research, may be better served during the Tokyo Trading Session.
I would highly recommend this article to anyone unsure of how to build this part of their Trading Plan:
How much am I going to risk per trade?
The next step in the trading plan is – in my opinion – the most important part of the plan. This is where a trader’s risk parameters are set.
There isn’t one answer to this question that is, across-the-board, better than another. Once again, this part of the plan should be built around an individual trader’s goals, objectives, and risk tolerances.
For anyone looking for some help in setting this part of the plan, in the module for Money Management in the On-Demand Video Course, we propose a max of 5% at risk at any one point in time.
Traders also need to determine if that amount at risk is going to be on one trade, or many. If I risk 5% of my account on 5 ideas, that’s 25%. If I lose on all 5 of my ideas, I only have 75% of my account balance when I begin trading tomorrow.
I then need to make 33% just to get back to my previous break-even level!
Personally – I find that level of risk intolerable on a day-in and day-out basis as a trader. I want a maximum of 5% of my account at risk – across all of the ideas that I’m trading. That way, if I have an extremely bad day and lose on all of my trades I can come back with 95% of my account value tomorrow.
How much profit will I seek on each trade taken?
Once again, this part of the plan can differ greatly from trader to trader depending on trading style, risk characteristics, and goals.
Risk and Reward is extremely important to traders, and once again, Mr. David Rodriguez has accompanying evidence to help further illustrate this point.
In “What is the Number One Mistake Forex Traders Make?”David Rodriguez and Tim Shea use data from FXCM’s live clients to tell the story.
David and Tim arrive at the thesis statement that a minimum 1 to 1 ratio should always be used. This means that if I am risking 100 pips in a trade, I want to look for at least 100 pips as a gain. David continues, “for lower probability trades, such as trend trading strategies, a higher risk/reward ratio is recommended, such as 2:1, 3:1, or even 4:1.”
In the Money Management module of the On-Demand Video Course, we recommend a minimum of 2:1 or greater; meaning if I’m taking the same trade with 100 pips of risk as above, I’m looking for a minimum of 200 pips to the upside if I’m correct.
How am I going to enter trades?
This is one of the more simplistic parts of the trading plan, as this will often be dictated by the trading strategy (or strategies) itself. I want to make sure that I’ve written out the exact situation that I am looking for.
If I were using the ‘Model Strategy,’ that David and Tim had used in “When is the Best Time of Day to Trade Forex?”this section of the trading plan would read:
I’m looking to trade RSI crossovers between 2:00 PM EST and 6:00 AM EST
I want this to be as descriptive of the strategy as possible in this section.
How am I going to exit trades?
A natural extension of the previous section, this area should address each strategy being traded. For each strategy listed in ‘How am I going to enter trades,’ I want to have an exit planned.
Some exits may be: “I will close my trade when 2 times my initial risk level is met.” Others may be: “I will remove a part of the lot and move my stop to breakeven at a 50 pip gain, and I will then trail my stop on the remainder of the position by 30 pips until an oscillation takes me out of the trade.”
How am I going to manage my trade(s)?
Once again, this area is going to differ greatly between traders as this should be highly customized based on the previous sections of the trading plan. This can also be built around the specific strategies or market conditions being traded.
Trending moves can often continue for an extended period of time, meaning trailing stops may be more of a requisite option in trending/breakout markets than in ranging environments.
For traders looking for more information, I share my point of view in the article “In-Trade Management.”
I saved the best for last.
This is where I will build and manage my personal ‘rules,’ of my trading approach. If I find myself continually running into an issue or problem, the only rational thing to do is identify the issue and build a rule around it. That’s where my personal rules come into play.
These will differ greatly amongst traders, but as an idea, one of the rules that have existed on my plans for quite awhile:
“I will not throw good money after bad.”
This means that if I open a trade, and am losing – I will not add to that loss.
It also means that if I set my stop, and the trade moves against me – I will not, under any circumstances, ‘widen,’ the stop or give it more room in the hope of being right.
I noticed this deficiency in my trading quite awhile ago, built a rule around it, and have kept it as a reminder. I encourage you to notice what areas of trading are causing you difficulty, and address them in this section.
--- Written by James B. Stanley
To contact James Stanley, please email Instructor@DailyFX.Com. You can follow James on Twitter @JStanleyFX.
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Research Referenced in this article: