Thursday, January 20, 2011

Develop Your Own Trading Plan

Trading is about probabilities, not certainties. A Trading Plan establishes a series of steps that ensure a higher probability of success.

The Plan will set certain guidelines for:

What stocks to buy
When to buy
When to sell

The Structure of Your Trading Plan

A Strong Market:

Before deciding what to buy, first establish if the market is in a positive phase. If the KL Composite Market has been negative over recent weeks (or longer), it is not a good time to enter the market. If the majority of stocks are going down or sideways, the probability of you buying a share that is going to rise in the immediate future is slim.

A Strong Sector:

Having waited until the market is in a growth phase, determine if there are any sectors showing strong growth in the past few weeks. These are the sectors that have stocks performing well and are increasing in price.

Examine stocks in these strong sectors and determine those that are on an uptrend, meaning the price of the stock has been steadily going up for at least 3 months.

These stocks will qualify as having potential for ongoing growth as they are generating positive market sentiment. If they have adequate liquidity on top of that, you could add any of these to your portfolio knowing that you could exit quickly at any point in time.

Exit Strategy:

Having selected shares to include in your portfolio you must then have an Exit Strategy in the event that these shares show signs of reversing. Simply set an Early Exit price to ensure that the stocks you buy never generate losses.

This is a simple description of a Trading Plan. It holds the basics for selecting stocks that have a good probability of increasing in price and risk management to protect your capital. These three ingredients are the key to success in stock trading.

Source : Bursa Malaysia

Building the Perfect Master Plan

What are the components of a good trading plan? Here are 10 essentials that every plan should include.

Skill assessment - Are you ready to trade? Have you tested your system by paper trading it and do you have confidence that it works? Can you follow your signals without hesitation? If not, it's a good idea to read Mark Douglas's book, "Trading in the Zone", and do the trading exercises on pages 189–201. This will teach you how to think in terms of probabilities. Trading in the markets is a battle of give and take. The real pros are prepared and they take their profits from the rest of the crowd who, lacking a plan, give their money away through costly mistakes.

TEH : I have done it a hard way ... by using real money to test out some systems but I found it more applicable by using(and losing) real money. While we view learning trading system for a longer term, in the short term, we should allow that our systems full with flaws and our lack of experiences to make decisions. TIP = Think In Probability.

Mental preparation – How do you feel? Did you get a good night's sleep? Do you feel up to the challenge ahead? If you are not emotionally and psychologically ready to do battle in the markets, it is better to take the day off - otherwise, you risk losing your shirt. This is guaranteed to happen if you are angry, hungover, preoccupied or otherwise distracted from the task at hand. Many traders have a market mantra they repeat before the day begins to get them ready. Create one that puts you in the trading zone.

TEH : Since I m not a full-time trader, I m not so concern about the mantra ... yet, I do think we all do some routines before we buy/sell a stock. Before we trade, we should be doing what we should be doing ... in out trading plan.

Set risk level – How much of your portfolio should you risk on any one trade? It can range anywhere from around 1% to as much as 5% of your portfolio on a given trading day. That means if you lose that amount at any point in the day, you get out and stay out. This will depend on your trading style and risk tolerance. Better to keep powder dry to fight another day if things aren't going your way.

TEH : This is something I never really plan before in my earlier days of trading. Today, I do take cut-loss as an important point in my plan. I have not always been that discipline(hope analysis) and allowed a stock went lower my cut-loss point before I FEEL I have enough and cut it off for higher losses. That is certainly un-wise but certainly happens to a novice like me.

Set goals – Before you enter a trade, set realistic profit targets and risk/reward ratios. What is the minimum risk/reward you will accept? Many traders use will not take a trade unless the potential profit is at least three times greater than the risk. For example, if your stop loss is a dollar loss per share, your goal should be a $3 profit. Set weekly, monthly and annual profit goals in dollars or as a percentage of your portfolio, and re-assess them regularly.


Do your homework – Before the market opens, what is going on around the world? Are overseas markets up or down? Are index futures such as the S&P 500 or Nasdaq 100 exchange-traded funds up or down in pre-market? Index futures are a good way of gauging market mood before the market opens. What economic or earnings data is due out and when? Post a list on the wall in front of you and decide whether you want to trade ahead of an important economic report. For most traders, it is better to wait until the report is released than take unnecessary risk. Pros trade based on probabilities. They don't gamble.


Trade preparation – Before the trading day, reboot your computer(s) to clear the resident memory (RAM). Whatever trading system and program you use, label major and minor support and resistance levels, set alerts for entry and exit signals and make sure all signals can be easily seen or detected with a clear visual or auditory signal. Your trading area should not offer distractions. Remember, this is a business, and distractions can be costly.


Set exit rules – Most traders make the mistake of concentrating 90% or more of their efforts in looking for buy signals but pay very little attention to when and where to exit. Many traders cannot sell if they are down because they don't want to take a loss. Get over it or you will not make it as a trader. If your stop gets hit, it means you were wrong. Don't take it personally. Professional traders lose more trades than they win, but by managing money and limiting losses, they still end up making profits.

Before you enter a trade, you should know where your exits are. There are at least two for every trade. First, what is your stop loss if the trade goes against you? It must be written down. Mental stops don't count. Second, each trade should have a profit target. Once you get there, sell a portion of your position and you can move your stop loss on the rest of your position to break even if you wish. As discussed above in number three, never risk more than a set percentage of your portfolio on any trade.


Set entry rules – This comes after the tips for exit rules for a reason: exits are far more important than entries. A typical entry rule could be worded like this: "If signal A fires and there is a minimum target at least three times as great as my stop loss and we are at support, then buy X contracts or shares here." Your system should be complicated enough to be effective, but simple enough to facilitate snap decisions. If you have 20 conditions that must be met and many are subjective, you will find it difficult if not impossible to actually make trades. Computers often make better traders than people, which may explain why nearly 50% of all trades that now occur on the New York Stock Exchange are computer-program generated. Computers don't have to think or feel good to make a trade. If conditions are met, they enter. When the trade goes the wrong way or hits a profit target, they exit. They don't get angry at the market or feel invincible after making a few good trades. Each decision is based on probabilities.


Keep excellent records – All good traders are also good record keepers. If they win a trade, they want to know exactly why and how. More importantly, they want to know the same when they lose, so they don't repeat unnecessary mistakes. Write down details such as targets, the entry and exit of each trade, the time, support and resistance levels, daily opening range, market open and close for the day, and record comments about why you made the trade and lessons learned. Also, you should save your trading records so that you can go back and analyze the profit/loss for a particular system, draw-downs (which are amounts lost per trade using a trading system), average time per trade (which is necessary to calculate trade efficiency), and other important factors, and also compare them to a buy-and-hold strategy. Remember, this is a business and you are the accountant.


Perform a post-mortem – After each trading day, adding up the profit or loss is secondary to knowing the why and how. Write down your conclusions in your trading journal so that you can reference them again later.


Taken from Investopedia


1 comment:

Anonymous said...

stupid guy, you don't know what is probability.