· Creating a personalized trading plan is the cornerstone to consistent and profitable trading
· Take risk management serious
· Find your niche in the market
· Learn how to properly use margin
· Always follow your personalized trading plan
· Don’t rush a trading plan, work on it, and personalize it to your preference
· Don’t change your trading plan within a few failed trades
Building a trading plan is the beginning of becoming a consistently profitable trader. Without a trading plan, you are just winging the markets and have no rules for yourself, which is a recipe to lose money.
You’re probably reading this because you’ve been there and experienced the pain of having no plan. So how do you create a plan? There are many aspects that go into building a trading plan, and I will break down the different aspects of a trading plan into short, easy, and applicable steps throughout this article.
Start with defining your risk per trade. Defining your risk can also be referred to as risk management and is crucial to not blowing up your account. Risk management is the process of knowing what amount of your total capital / what amount of your account you will risk per trade and are willing to lose if the trade does not go your way
Something to distinguish between is position size, account size, and risk. The position size is how much capital you use to buy a certain number of shares, your account size is the total amount of capital in your brokerage account, and your risk is the amount of capital you may lose on a given trade.
A generally good risk management rule is to allow yourself to lose no more than 1-2% of your account per trade. Take the following example: you have a $1,000 account and your risk management strategy allows you for 1% risk per trade. If you then were to place the entire $1000 account on a singular trade, your stop loss should be 1% under your entry price, which means that was the trade to go against you you would stop out at a $10 loss. This trade would be following a1% risk per trade risk management strategy.
With that same account, you could place a trade for $100, your risk management strategy still allows for only a $10 loss, as it still represents 1% of your total $1000 account. This means on this trade of $100 you could have a stop loss 10% under your entry price and still be following your risk management plan.
I hope this example has made clear what risk management is and how it is affected by position size and account size. Again, a great risk management rule is to risk no more than 1-2% of your account per trade.
Disclaimer: This article does not provide a trading plan to put into use. The article uses random examples only in order to shed light upon the necessity of building a trading plan and the different components that are necessary for creating a trading plan.
Ask yourself what type of trader you are and find what type of market structure you understand and find easy to trade. Do you like going long/trading upward momentum, do you like going short/trading downward momentum, or do you like trading ranges? This can be best discovered by trading all of these different market structures over time. After having tried all types of market structures you are sure to find which you feel most comfortable trading.
Whatever direction you may be trading there will be different setups to pick from. You can choose to trade pullbacks in an uptrend/downtrend, trade breakouts out of a period of consolidation or any other setup you may like.
Trading setups may arise on different time frames. Depending on how quickly you want to get in and out of trades, and how much time you would like to spend on trading, you have to find what time frame works best for you and your trading plan. Some options include swing trading daily charts, day trading the 1 – 4H charts, or scalping the lower 1m – 15m time frame charts. Find your preference and build an edge.
The rules of your trading plan should provide you with a checklist of requirements that you should check before entering a trade. There are thousands of rules from which you can pick from. What your rules/requirements are all comes down to your preferred trading style.
Optimally you pick a maximum of five rules for your trading plan, any setup you wish to trade has to meet these five requirements.
Rules can consist of indicators and conditions such as the RSI being oversold/overbought, RSI or OBV divergences, price action being in a bearish or bullish higher timeframe (HTF) structure, or price being above key moving averages. Whatever your preferred requirements may be, lay out your trade requirements and check if they are met before you place any trade.
Disclaimer: This set of trading rules has not been back-tested and is not a recommendation. These are merely examples used for ease of explanation.
After you have made your risk management plan, found the chart of setups that you like, and created a set of rules, it is time to find a good entry on a trade.
If you are a breakout trader an entry signal may be found in a breakout or retest of a key resistance level. If you are a pullback trader an entry signal can be a bullish or bearish reversal signal that signals continuation in a higher timeframe direction.
After you find one of these entry indications or whatever other entry indicator you like to use, you will have to decide where to put your stop loss. The primary thing to look out for while placing your stop loss should be your risk-management rules.
It would be best to look at a safe confluence level where you feel unlikely to be stopped out and see how large of a position you can buy with a stop loss at that preferred level while abiding by your risk-management rules.
A good thing to look at when placing a trade is your risk-to-reward ratio. A generally known rule in trading is the minimum 3 to 1 risk-to-reward ratio. This ratio means that you gain at least 3 times more if you win than you may lose if the trade goes against you. A trade that has more than a 3 to 1 risk-to-reward ratio is even better, but make sure your profit levels are realistic.
If you are wrong about a trade idea then you lose little and when you are right you win a lot. Your risk-to-reward ratio can be easily seen with the long/short position drawing tool described later in the Tools section of this article.
After you have placed the trade you need to manage your trade. Let’s say you have found a chart that met your trading rule’s requirements and you have placed the trade with risk managing stop losses in place. Suppose this was a successful trade and so far has gone in your favor. Now it is time to manage the trade correctly.
You don’t want to FOMO out of a position and take profits too early. But you also don’t want to see all the profits returned into a loss. There are a few solutions to this that you may include in your trading plan.
You may want your plan to include 2-4 different take-profit levels marked at which you take incremental profits out of your trade, letting the rest run. Having different levels at which you take profit ensures that if the trade reverses, you will not be left with nothing. It also ensures that you don’t take everything out at once, in case the price continues to move in the right direction.
Placing your stop loss at break-even after you were up 1R (1 risk to reward point/ at1:1 risk-to-reward level) will ensure that you never lose on a winning trade. Another common trade management technique used to ensure a winning trade does turn against you is called a trailing stop loss. A trailing stop loss trails the price and stops you out whenever the price reverses and reaches a certain %below its recent highs, these can often be found on your broker’s trading page.
Margin trading is something many traders are unable to implement safely within their trading plan and can therefore cause serious problems throughout a trading career.
Suppose we use the same example as used earlier, a $1000 account with a risk management plan where you are risking 1% of your account per trade. Suppose while trading pullbacks you find a nice entry where your stop loss only has to be down 2% from your entry-level and you only place $100 on the trade. With a stop loss of 2%under your entry level, you are risking $2. Yet, your risk management plan allows you to risk up to $10 per trade (1% of your total $1000 account). This means your plan permits you to use a 5x margin for this trade.
So in essence, only if you do not reach 1% risk on your account on a given trade does your plan permit you to use margin.
Taking the same account and trade as an example, instead of having a $100 position, you decide to put on a $500 position. Your stop loss still being 2% below the entry price. 2% of $500 is $10, therefore, your risk level is perfectly reached which means you are unable to margin with this position size. I hope to have made it clear that margin should only be used when you are unable to reach your risk management % in a trade with un-margined position sizing.
Disclaimer: Margin trading should only be done when the technicalities and implications of margin trading are thoroughly understood.
The most important tools to understand and use while placing trades would be the long and short drawing tool on Tradingview or your preferred broker’s trading interface found in the toolbar (Fig. 1). While using the short or long position tool you can also provide your account size and preferred risk percentage, the tool then instantly calculates how many shares of a particular stock you may buy per trade (Fig. 2). This is the easiest way to know what your position sizing should be immediately when scoping out a potential trade.
Staying disciplined and unemotional during trading is extremely hard. Therefore, even though you may have created a perfect trading plan sticking to it is the hard part. Fears and greed often overrule our rationality, but luckily there are a few things a trader can do to avoid giving into emotion. A great way to ensure you’re following your trading plan is to journal your trades prior to placing the trade.
First, at the top of your trading journal write down your entire trading plan and trading rules. Second, whenever you have scoped out a trade and are looking to enter, write down this particular trade and why it is a good trade. Third, place the trade.
Journaling a trade entry prior to placing a trade enables you to reflect upon the trade idea and see if it is really a good trade. You will often catch yourself nearly placing a trade that does not abide by your trading rules and doesn’t look as good as you had thought. Journaling prior to entry can stop you from FOMOing into a position.
Journaling also enables you to reflect upon a trade after pacing it, logging your trades, and your progress. This way you can always reflect upon poorly executed and well-executed trades, learning from your mistakes and strengths is key to understanding your own style of trading.
TIP: An easy way around the time-consuming process of writing a journal entry about every trade is to have a screen-recording software such as OBS on your computer and recording your trade ideas in real-time, narrating the idea to yourself. Recording your trade ideas and entries makes the process much faster while still providing you with a moment’s pause in which you go over all your trading rules.
Don’t rush a trading plan, it doesn’t have to be perfect right away. It takes time to find the best plan for you. A trading plan may always change when you find certain rules you like better. But remember changing your plan should not be an immediate reaction to a few losing trades.
When you’ve finally created a plan that seems to work for you, stick to it for as long as possible. Only if it really does not work for you, you should change your plan. Just remember having a plan at all and sticking to it puts you ahead of 90% of retail traders. So set up a trading plan as soon as possible, stick to it, and survive the markets until you’ve learned to be profitable.