The Mandatory First Step No Trader Should Do Without
- Benchmark Before Ever Making a Trade
- 3 Big Benefits of Benchmarking
- 2 Ways Benchmarking Does What Traders Can't
One common knock on trading education is that there is no “end game.” Or, as Connie, a trader in Florida describes, it’s “like riding a merry-go-round. At first it’s exciting, but after a while, you figure out that you’re just going around in circles.”
The way off that merry-go-round is to develop a static trading plan that can be validated, or benchmarked, in different markets and over different time periods. A static trading plan, or one that does not change, is important because without continuity, there can be no validation.
When you see a trade signal, you need to know right from the start what the odds of success are, based on that method’s winning percentage, and the risk/reward to date. Once you have a plan with which you are comfortable, and one that produces satisfactory performance over a large enough sample size, then you can begin demo trading or trading mini sizes, which begins the process of bringing your own performance in line with that of the chosen method.
The process of validating a trading method by recording its performance is called benchmarking, and without it, traders will find it difficult to take the risk required to be successful over the long run. The benchmark, which usually comes in the form of a spreadsheet that records all the entries and exits of a method (see Figure 1 below), is essential for many reasons.
Guest Commentary: 3 Reasons to Benchmark Your Trading Strategy
We encourage all traders to benchmark their method for themselves, even if they’ve been taught that method by someone else. The benchmark assures three very important things:
- That they know the inner workings of their trading method;
- That the method delivers satisfactory results;
- That it is a great measure of one’s own trading performance. If you’re trading below the benchmark, then you’re not following your trade plan, and this comparative analysis will highlight where the shortfall exists.
The benchmark is, by definition, a hypothetical measure, but it succeeds in two very real aspects of trading that prove problematic to virtually all traders:
- It records every trade a method produces over an extended period of time; and…
- It manages trades to the letter of the plan
Because the benchmark is purely mechanical, it provides a more accurate representation of a method’s performance than can be achieved by an individual trader.
Bottom line, the benchmark is intended to gauge the success of a particular trading method or plan, so before you decide to trade, be sure to validate, or benchmark, your method, to ensure that it generates consistent results and satisfactory returns.
By Jay Norris, author, The Secret to Trading: Risk Tolerance Threshold Theory
DailyFX provides forex news and technical analysis on the trends that influence the global currency markets.