It’s an old adage and a simple one, but it’s also effective; failing to plan is planning to fail. We’ve found this mantra applies particularly strongly to the trading game.

Trading, by its very nature, is a risky enterprise. It is incumbent on you – the trader – to formulate a trading plan that takes into account the unpredictability of the market in order to ensure your capital is never exhausted.

Concepts like self-discipline, notional funding and proper position sizing are essential in order to achieve this level of financial competence.

It is also worth noting that if you intend to enter the “business” of trading, you need to treat your trading as a business.

That sounds simple, but in fact it means a significant shift in the way you manage your investments. Businesses have a clear, defined, tested strategy, and the best advice we can give is that you should manage your money in exactly the same way you would manage a business.

Forex symbols (figure 1)
Figure 1: always manage your money as if you’re managing a business

This will primarily involve formulating a competitive moat with a clear edge, having the self control to wait for your edge to come into play, diversifying your bets and managing any correlations you find.

However, another key part of any successful business is a diversity of income streams. Don’t focus on covering all your bills through your trading; make sure you’re still in a position where your sources of income are varied. Having trading as just one of a number of financial outlets in your life will take the pressure off you and allow you to trade with more freedom. 

This will require a concise, clear and simple trading plan which will be your guide to making consistent, rational trading decisions, rather than making risky, irrational moves which could derail your entire financial portfolio. The key to this plan is it has to be yours; you need to make the trading plan and believe in it otherwise you’ll find it impossible to stick to.

Template Trading Plan

Creating a successful trading plan isn’t just about learning a simple structure and executing that structure. You need to formulate a plan that works for you, and most experts say that creating a real, tried-and-tested trading plan is a lot like playing a strategic board game.

You first need to devise your strategy (i.e. what your goals and aspirations are), formulate your tactics (how you’re going to reach those goals) and then decide how you’re going to operate psychologically; i.e. how you’re going to manage your stress.

With those factors in mind, here is our blueprint for a successful trading plan.

Strategy

Ensure you have multiple income streams. If you don’t, we recommend that you find a way to get some; for example finding a part time job, or keeping your current job while you start out as a trader). In essence, you need to be able to confidently say that your risk capital is loseable, and that you can afford to lose it all without it affecting your lifestyle.

A key part of formulating your trading plan will involve learning about how the markets work; how they’re structured; how market dynamics operate and how macroeconomic news events can impact on world finances.

Successful traders always understand their own personal edge; what makes you better as a trader than your competition. There are any number of edges waiting to be exploited, you just need to find yours and stick to it religiously.

Be aware that uncertainty comes with the territory. All traders, of all levels of skill and experience, suffer losses, particularly early on in their trading journeys. Don’t become fixated on “winning” every trade, just try and ensure that overall your trading plan is one that you’re confident will pay dividends in the long run. As part of that, you’ll need to understand the idea of probability; while initially you might be extremely successful or extremely unsuccessful, in the long term the random distribution of wins and losses should ensure that your overall balance regresses to the mean.

However, that doesn’t mean you should blindly follow your strategy as it leads you down a dark path, you always need to have a Plan B should things awry. Formulating a contingency trading plan is something every trader should do; if your system isn’t working within a predetermined timeline (let’s say, 18 months) then you should have a fallback “break-glass-in-case-of-emergency” plan, e.g. seeking professional coaching or fundamentally overhauling your current strategy.

It is crucial, once you’ve established what your edge is, that you understand when it is in play and take advantage accordingly. This will mean planning out how many trades per week you intend to make and thus allocating how many trades per month you are making.

Tactics

Once you’ve formulated your strategy, the next step is working out how you’re going to successfully implement that trading plan. These are your tactics; i.e. what is the aim of your system? Are you intending to maximise short-term gains; scale in to long term trends; fade range extremes, etc.

To ensure your tactics are effective, you’ll first need to define the appropriate market environment by asking yourself questions like “what constitutes a trend in my system?”, or “what situation fits my strategy best?”, or “where are my transition points?”.

Part of defining an appropriate market environment is defining what constitutes a low-risk set-up in your system, for example pullbacks or breakouts are generally considered classic examples of perfect setups in most trend environments.

Before you trade you will also need to set very clear guidelines on what your risk will be on each trade. Usually, we would recommend not to risk any more than 1% of your consolidated equity on any one trade, and that 1% can be fit to whatever the amount of pips is from entry to stop loss. In this case, larger positions are available when the stops are tighter and, of course, vice versa.

Also, you will need to clarify how you want to deploy your risk; for example, you don’t have to enter the market with a full stake at once, you can play it cleverly by scaling in as a price moves in your favour, or enter a portion at the market with a limit order set to catch retracement, etc.

Define your criteria for managing your trades. When will you hold your positions? When will you fold? When will you add or scale out? Your objective, obviously, is to try and ride winners for as long as possible and cut your losers as soon as you can. However, again obviously, there’s no overarching formula that will tell you how to do this, it’s something you’ll need to determine for yourself through experience.

Decide what your criteria for exits will be. Are you going to have pre-defined targets, volatility targets or trailing stops? Again, this is not something we are able to give you a formula for; you’ll need to find out through trial and error.

How are you going to keep track of how well your strategy is going? You need to closely monitor your performance by keeping detailed statistics about all your trades, particularly as a beginner. We would also recommend taking notes about the different approaches you take as well, so that if you do 50 trades and use a slightly different method in all of them you are able to say which were effective and which weren’t.

If you’re able to monitor your performance properly, soon you’ll be able to identify areas of your trading which are working, and areas which need improvement. For example, if you find yourself winning on most of your trades but still losing money because of bad losses, you might need to consider using tighter stop losses or scaling quicker/harder on your winning trades.

Psychology

Trading can be an incredibly stressful, taxing occupation, even for those who’ve been in the business for years. It is essential, as you’re formulating a trading plan for how you’ll conduct yourself in the financial world, that you also form a psychological plan as well.

  1. What are the beliefs that you consider your “core”, whether that’s about yourself, the market or even the world as a whole?
  2. Do those beliefs of yours marry up with those held by the top market participants in the world? If not, are they beliefs that you would consider changing?
  3. What are you like under pressure? Do you have performance anxiety? How do you cope with losing? Do you feel too much pressure to win? Any mental blocks like these that are part of your psyche will come to the fore in the high-stakes, high-pressure world of trading, particularly when you begin to risk your own capital, and you need to be aware of your foibles in order to ensure they don’t put you off your game. Don’t squash these aspects of your personality; recognise them, work through them and perhaps, if you need to, seek professional help if they are impacting your trading in a negative way.
  4. Do you maintain good physical health? If not, you should. It’s a well-established fact that having good physical health leads to better mental health (and vice versa). Ensure the bulk of your trading activity comes when you are feeling good in all areas.

If the answer to any of these questions scares you or concerns you, work on yourself. Meditation or mindfulness courses are everywhere these days, and both are fantastic practices to adopt.

Getting yourself in a good space mentally will help your trading no end. It will help you have discipline when sticking to your trading plan, it’ll help you to be grateful when things go your way and accepting when they don’t.

The crux of what we’re saying is that developing a successful trading plan is not about finding the key that unlocks the secrets of trading and makes you a millionaire in a week, it’s about finding an approach that suits you and you alone.

You can’t succeed in the big, bad world of trading by copying the way someone else does it, you need to find your own methods and have your own successes and failures. It’s useless trying to adapt someone else’s approach to your own; make your own trading plan, test it, try it and then mould it further to your own needs.

The Importance of Multiple Income Streams

The hardest part of trading for most aspiring Warren Buffets is managing stress levels. A stressed, frazzled trader is a trader who makes mistakes and ends up straying from the plan they spent hours formulating. 

Stress comes from everywhere, but the source we find most common, among trading beginners especially, is from a lack of personal financial stability. It cannot be emphasised enough how important it is to ensure that you have a stable financial situation before you attempt to take over the markets.

Obviously, the best way to ensure you have a stable personal financial situation is to ensure that you have multiple income streams.

Some of the unwanted outcomes that can occur when you do try and trade when under pressure can include:

  • Lack of adherence to trading plan
  • “Forcing” trades as opposed to patiently waiting for opportunities to arise
  • The highs of winning are high, but the losses feel like the end of the world
  • “Overtrading” to try and chase losses
  • Desperately cutting winners short and riding losses too long

Really, for all the fancy words and unnecessary complexity, trading is like any other hobby or profession you’ve ever tried in your life, in that success comes from commitment. Limiting pressure while you’re trading is thus like limiting pressure in any vocation or activity; you need to ensure you have other outlets. That applies both in a professional sense and a personal sense; it’s preferable to have other income streams, but it’s also preferable to have other incoming streams of enjoyment, whether that’s running, riding a bike, reading books etc.

It’s worth noting that perhaps the easiest way to diversify yourself when you’re trading is to make sure you have another source of income, whether that’s a job stacking shelves, freelancing as a writer or in any other profession.

Building Your Trading Plan

With all the background stuff out the way, it’s now time to get busy and actually build the trading plan we’ve been discussing this whole time.

The best way to think of your trading plan is as the vehicle that is going to move you along the road from being an aspiring trader to a successful trader. Continuing this metaphor, if the trading plan is your vehicle then the actual system you use to trade with is the engine that drives your vehicle.

So, the first step towards building your trading plan is to build your trading system.

System Concept

It’s up to you to decide on the concept your system will have underpinning it, but our advice would be that simplicity will always outperform complexity in trading. So, there’s no need to think up some complicated formula and spend hours preparing graphs (yet); your system concept initially could be something as basic as “I want to capture good trends.”

Then you’ll need to figure out what the story behind your system is; if you want to capitalise on trending environments, then where does your edge come from? Are you catching pullbacks, or playing shallow breakouts? You need to decide when your edge comes in to play.

It’s important as well to be able to justify your system, whether that’s to others or, more importantly, yourself. What fundamental ideas about market structure and market dynamics are you using?

Clearly define your edge. You should be able to describe your system’s edge in one clear sentence.

What markets do you intend to use your system on, and why have you chosen these specific markets? For example, if you’re intending to use a system based on trends, forex and commodities markets are traditionally markets that trend more than stocks.

Is your system rigid or are there elements of discretion? In general, we find abiding by clear, simple rules will help you make more rational decisions.

Are you using a purely technical system or are there some elements of outside information (for example, sentiment indicators, news concerning the economy etc.)

What time frames are you intending for your system to work in? Are you operating a multiple time frame approach, or will your system operate off a singular time frame?

How often will you monitor how well your system is working? Do you need to do so daily, weekly or more often?

It will always be beneficial to identify potential issues with your system from the get-go; when will your system NOT work? What circumstances will you find it more difficult to assess?

Once you have answered all these questions and set out how exactly your trading plan will work, we recommend taking some time to demo trade the system. This will allow you to take notes on the efficacy of the strategy you’ve chosen, keeping records of your performance, how many trades you’re making per day/week, where your system has deficiencies etc.

It is essential to be systematic in the way you approach these tasks. The more you can identify the same kinds of situations regularly, the more you’ll be able to learn about how well (or not well) your system is functioning. The only way to really understand the odds of your trading plan is to generate meaningful stats about it which actually mean something to you.

Trading Plan Example

Tools

Five-week moving average (simple), five-day moving average (simple), fundamental influences / market wraps, five-day RSI.

Concept

Staying away from retracements and attempting to trade a trending market.

Objective

Find when momentum is aligned with a trend and trade in the line of that established trend.

Reason For Success

This system will work because when clear drivers are evident that are pushing prices in a certain direction, it is easy to find and filter trends that you can expect to continue for some time and that will fit with your trading plan. Additionally, taking a multi-time-frame approach will allow us to take a wide view of the market landscape and avoid any tunnel vision. The market will show us when to deal in and out of trades and there is no need to force anything.

System’s Edge

The ability to identify days of trend within a trending market, avoiding choppy or inconsistent markets.

Target Markets

We want trending markets for our trading plan, and hence forex, precious metals and oil are the perfect fit as they are all markets that trend noticeably.

Mechanical or Discretionary?

To break it up in to percentages, this trading plan is going to be 20% discretionary (with regards to the instrument selection) and 80% mechanical (with regards to the trading rules we are applying).

Technical or Fundamental

We intend to consider both technical elements and fundamental information (macroeconomic news etc.)

Time Frames

As above, we are taking a multi time frame approach which will be weekly and daily.

Monitoring

The system will need to be monitored at least twice per day.

Possible Issues

Discipline will be key, as trying to use this system on choppy markets will not work. A lack of volatility will also be a problem, as will a lack of evident drivers.

Weekly EURUSD Closing Below 5SMA (Confirms first rule) (figure 2)
Figure 2: Weekly EURUSD Closing Below 5SMA
Daily EURUSD chart. Look for entries now that the week has moved negative and RSI remains at a level below 50, as long as we remain below 5SMA. (figure 3)
Figure 3: Daily EURUSD chart. Look for entries now that the week has moved negative and RSI remains at a level below 50, as long as we remain below 5SMA.
EURUSD 1-hour chart showing trading plan trigger (figure 4)
Figure 4: EURUSD 1-hour chart showing trading plan trigger.

Stop Loss

As a blanket rule, a stop loss will be placed at the high of the trigger day.

Exit Condition

If a position is open, the trigger for it to be closed will be the first instance of a neutral or counter-trend day. 

In general, the candle-formation of a counter-trend or neutral day will either be a shooting star, a hammer or a doji.

Shooting star diagram (figure 5)
Figure 5: Shooting Star formation
Hammer formation (figure 6)
Figure 6: Hammer formation
Doji and Amost doji (figure 7)
Figure 7: Doji (right) and Amost doji (left) formations

Probability Enhancement

Our system will always attempt to jump on the first valid signal coming after a weekly trend change, or take the first valid signal after recognising a daily pullback fitting within a broader, weekly trend.

Brief Outline of a Counter-Trend System

Crude oil daily chart (figure 8)
Figure 8: 2016 chart showing daily price of crude oil

What the above graph demonstrates is what could potentially be an example of a highly specific trading plan, the aim of which is to identify potential trend reversals stemming from the prior month’s extremes.

This involves being extremely specific about what the location is of the reversal (in reference to the prior month’s high or low) and what form the reversal is taking (e.g. what form of candle).

Taking such a specific approach allows you – the trader – to wrap your head around what exactly constitutes a high-probability decision, based on your predetermined rules. That decision should be right there in your face when you first run your chosen charting software using your trading plan.

What Factors You Should Be Recording

Once you have set clear guidelines by which your system will live by, you then need to begin choosing which stats and indicators you want to record which will help you take the next step.

This is not an exhaustive list by any means, but here are some of the things we like to take note of when trading:

  • Trade duration
  • Win/Loss ratio
  • Consecutive losses (max)
  • Consecutive wins (max)
  • Risk/Reward ratio
  • Accurate currency pairs (what you’re getting right)
  • Inaccurate currency pairs (what you’re getting wrong)
  • Time of entry
  • Trade durations

Tracking factors like these should hopefully allow you to generate a form of expectancy for your trading plan, which will help you to structure accurate return objectives which you should be able to consistently meet with a small margin of error. For example:

  • What a “poor” setup for your trading plan looks like
  • What a good setup looks like
  • What time of day your trades tend to appear
  • Whether you should open a particular trade.

While this process looks complicated, it’s actually very simple. In essence, it’s about learning when to stay flat. Way too many inexperienced traders (and some experienced ones as well) never seem to figure out what exactly constitutes a high-odds situation and what doesn’t. However, if you stick with your trading plan, remain disciplined and train your instincts so that your “gut” is a reliable indicator, you will find yourself successfully trading using your individual trading plan in no time.

Here’s a sample routine that we’ve found can help polish your instincts:

Before Going to Bed: Read a daily market wrap and, after doing so, create a watchlist of two or three currency pairs which you think will offer attractive setups the following day. This might require filtering out the best looking trends and even placing pending orders if you find an extremely high quality looking situation.

Before Work in the Morning: Make sure you’re abreast of all developments that occurred overnight. Should you be taking in to account any news? Can you see any themes that are immediately evident? Is the watchlist you made still relevant? Have any of your orders been executed?

At Work (if possible): Try to monitor developments around the times of major market openings and then manage your trades accordingly. So, depending on where you live, look at the European opening, the New York open and even the Wellington open. How are your watchlist items behaving at these times? Do you need to manage your trades? Is everything going well? Has anything unexpected happened?

After Work: Keep monitoring your open trades, keep abreast of any macroeconomic news, make a new watchlist for the day coming up and make any changes to your current watchlist that you need to.

It’s Up to You!

Remember that the ultimate objective of any trading plan you make is to get yourself in to a comfortable situation that you can trade from, which puts yourself under as little pressure as possible.

Remember though that you are going to need to expose yourself to the market for 12-18 months before you find yourself becoming confident in the trading world. Becoming a consistently successful trader is often considered a marathon, and it’s folly to expect it to be a sprint.

Once you’ve sorted out your personal circumstances, the next focus should be to build good habits which allow you to consistently approach the markets from the same angle. This will allow you to build your bank of statistics and consequently make the improvements to your trading plan that you need to.

Following your trading plan consistently will ensure you become a specialist at your specific trading plan, which is potentially the most powerful quality any trader can have.