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Part I. Trading Plan Framework – Common Thoughts

Trading Plan Framework – Common Thoughts - Forex School
Commander in Pips: Step by step we’re approaching to graduation from our school. Although there are a lot of topics to discuss ahead – we mostly have finished with technical tools. In coming parts, we will mostly focus on organization of trading and trader’s being – trading plan, psychology and other applications. Although these co-issues of trading are not the core and do not stay on the surface of the trading process – they are such important blocks, that your trading house will not hold up without them. Today I would like to start with the trading plan creation procedure.

Start with the trading plan creation procedure - Forex School
Pipruit: I suppose that it will be very helpful.​

Commander in Pips: I hope so. In our daily and weekly research I always tell that you do not follow my posts blindly. There are a lot of reasons for that. First, even if I succeed with some approach to the markets – it does not mean that you will do as well with the same approach. We have different ways of assessing the current situation on the market, different mentality, psychology of our personality, experience and risk sensitivity. Probably my approach to markets will not be suitable for you. Even if you truly understand it, you may have problem to efficiently apply it in practice.

Second, if you see that some analyst makes good assessments of the market and his analysis is pretty good – you may stick to it for some time to understand his methods and take something that you’re really like to use in your own practice. This is a wise approach and it is called “study”.

Third, as a result of study and your own experience you should come to your personal trading style and planning procedure. Although the common trading plan of different traders has almost all the same points – the foundation and approach to these points usually different. Initially your trading plan will be a bit blurred and not so good as you desire it tobe , but when you will work hard, study and get experience – it will become more and more precise and effective.

The trading plan includes two major actions that are the foundation of trading discipline – development of trading plan, and following it. Trading discipline is a most difficult stuff in trading – not study, not creation of a trading plan – but sticking to it with no steps to the right or left.

Pipruit: Sir, could you please specify, at only a few words – what is a trading plan?​

Commander in Pips: Oh, right. A trading plan is a predefined consequence of your operations in any scenario of market behavior that is based on your analysis of the market. In other words, the trading plan tells us what should be done and why (your analysis), when (price behavior) and how. Analysis is based on your trading system, “when, and how” mostly depends on your personality and risk management.

Pipruit: And why I can’t trade directly – by following market action without any plan?​

Commander in Pips: When a trader starts to deal with real account – on real money, then he feels some psyche pressure. By impact of such pressure he has a tendency to make irrational trade decisions, especially if the market jumps and chops. This pressure reaches inordinate levels when he holds a loss position. Pressure is also significant, even if he holds a profitable position. Irrational behavior due this pressure leads to early close of a profitable position and extended holding of loosing positions that leads to significantly larger overall loss or even account termination. A trading plan is made to avoid this.

By your own trading plan you know where and at what conditions you will enter, exit or reverse your position – both with profit and with loss. So, a trading plan strongly minimizes unwelcome psyche factors in trading. When you stick to it – you act by it without any deviation.

Pipruit: Hm. Is trading system the same?​

Commander in Pips: Not quite, precisely, absolutely not. A trading system is a number of tools, indicators that allow you to assess market environment and make a decision about when to sell, buy or stay flat. A trading plan is wider. It includes application of a trading system as a first step, but in next steps it describes an algorithm of following to results of analysis as if you will be right, but what is more important, as if you will become wrong. In other worlds, it includes algorithms of action for any scenario, combined with risk management, entry/exit tactics and signs of dominating and shifting of scenarios between each other.

In fact a trading plan makes your trading procedure much simpler and clearer. This is the same as appearing in an unknown town and trying to find something that you need. If you have somebody from around here, that person can clearly explain you the shortest way, where to turn and where better not to turn. A plan is similar. It will give you comments in time to keep you on track. If you still take a wrong turn – it will tell you how to correct it. Anyway it will lead you to your desirable destination. So, we can say that a trading plan is your guide that helps you to reach consistent profitability.

If you do not have a guide – you will be driving around in circles and you will either lost a lot of time at best or even will not reach the point where you want to get to. Trading without a plan is the same as a trip in Forex jungles or desert without a guide. In such case you will hardly reach a desirable oasis called “Consistent profit” and probably find yourself in loss. When you do not know where you’re going – in the right direction or not, your trading account probably will not carry this and blow up.

Pipruit: And how will a trading plan help me to understand whether it is the right direction or wrong?​

Commander in Pips: Using a trading plan you will be able to assess your performance on a continuation basis. Even more, you will be able to catch the reason if something goes wrong. Besides, if you do not want become neurotic you better think about a trading plan, since it strongly reduces your psychological pressure and stress. Also, if you remember when we’ve discussed some psychological trading basics we’ve said that gambling and trading have nothing common with each other. I have to make a single exception to this statement – trading without a plan is gambling.

Pipruit: And why?
Commander in Pips: Look, trading without a plan suggests, that you will make trades occasionally by emotion, in better case by third party signals of unknown quality. You will be change your mind when the market will suddenly jumps for 10 pips in some direction. When it will do it in other direction you will feel that you probably were wrong and change your mind. When you will hold a losing position and see that loss increase day by day – this will press on you hard, you will not be able to think, your mind will be close to other trading ideas, you can’t sleep at all. The point is that after all you will have just hard work – no profit, no experience. You will become thin and crushed emotionally. You will get lucky if you save some part of your initial account. Is this what you particularly need?

Pipruit: Absolutely not, but if I will have plan, then I can count on opposite issues? Is it a guarantee of success?​

Commander in Pips: Unfortunately not. But trading plan gives you the clue for understanding of your failings. Usually they divide into two groups – discipline problems or trading system problems. But to assess the latter you have to fulfill the former first.

Discipline problems are worse than system problems since it is harder to correct them. They appear when you do not follow your trading plan - when you change it in a rush of trading day occasionally, when you do not follow it. If this is the case – you will never be able understand how good your trading system is, since you even do not execute it and change signals that it gives to you by your spontaneous feeling.

If you follow the trading plan, then you can assess the quality of your analysis tools. Do they give you good signals or not and so on. Then it is much easier to change the trading system than to force yourself constantly follow the trading plan. This is the most difficult task for a trader.

As you understand, if you have no trading plan at all – who you will assess the quality of a trading system as trading plan itself – you have no tools for that. I even will not talk about assessing of your performance.

Initially, probably, your trading plan will not lead you to profits, but we might say that you will hold on the market much longer than those newbie traders who have no trading plan at all. When you start to get experience you will be able to look at your trading plan deeper, it will become sharper and stricter and so, step by step you will be closer and closer to surviving initially and then to consistent profit, if your trading system is acceptable.

If you remember, right in the introduction to our school we’ve said that the bulk of traders loose money while just 5% get profit. I’m sure that those 5% do their homework and have a prefabricated trading plan before they even start to think about any trade.

Pipruit: Ok, I’ve got it! Existence of a trading plan and strictly following it significantly increase your chances to reach consistent profits, although does not guarantee this, while absence of a trading plan makes it impossible.

Still, I couldn’t keep from asking you… Although maybe I do not have a trading plan, as you understand it, nevertheless I make my own analysis. Still sometimes, I make a trade by gut feeling, that is not based on my analysis and very often it leads to profit. Is this allowable at all?

Commander in Pips: The short answer is - no way.

Here is a long answer also. You may feel some exciting and pleasure at the moment by the profit that you’ve made with this occasional trade – as you call it by gut feeling. But in a long-term perspective, if you’ve made one or two profitable occasional trades you may start to think, that having a trading plan is junk, since you’ve been rewarded by the market for not following it. So these gambling profits could play negative tricks with you and you will loss your ability to follow the trading plan and your diligence in discipline. Probably it won’t be such a problem if not for one feature of discipline. It’s very simple to abandon it, but very difficult to return. It’s like to roll the rock uphill – release it and it will roll back tp the mountain’s base. But try to move it back at top after that – it’s very difficult. The same is to keep up with discipline. To support it and follow it is much simpler than to abandon it and later try to return to it.

If you start to think as “once I’ve got profit already, may be I should try again, I’ll take the chance” – this is a worrying sign. The words “chance” and “gambling” stand very close to each other, but we do not need dive into gambling. This approach will lead you to a short-term life on the market and long-term losses.

So, you have to be focused on a justified approach that has a foundation, and this foundation is your trading plan. When you’ve planned the trade, executed it strictly what you’ve written in your trading plan and led your account to profit – that is correct approach. Besides the profit itself, you will be edified in discipline. That’s the first point. But why is discipline is so important?

Here we come to second point. Trading is a question of probability. It means that a profitable trading system is different from an unprofitable not because it is profitable in every trade, but on average. So, if you make, for instance 100 trades, strictly, as a system suggests and 50 trades will lead to profit, 50 will lead to loss, but after that your account will have a profit, then we can say that this system is acceptable (although not perfect of course).

Pipruit: Why?
Commander in Pips: Because if you will strictly follow it, then you will end your journey with profit. With many trades it leads to profit, despite the fact that number of profitable trades being equal to loss trades. The point is that profit in each winning trade is greater than the loss in each loosing trade.

But here is major word “Strictly follow.” Now imagine that you start to make “occasional” trades by gut-feeling, toss the coin to decide buy or sell or something like that. By that action you break the average positive statistic of the system. It promises you profit, if you strictly follow it, but when you start occasionally change and break it – you will end with loss. Even more, you will never understand how good system is. To check it, you have to strictly apply it and see what will happen. If you do not do this, how will you understand if it does work or not?

This is the same as with Tiger Woods. His system suggests that he should use a golf-club to hit the ball. In this case it will be a bunker the ball in most cases, say 85 times in 100 hits. But if you change system and replace his golf-club with a hockey stick or even with snooker cue, even Tiger Woods will fail most of the time. Even more, you will start to think that Tiger Woods is a bad player, but the reason for this failure is your breaking of the system by occasional replacing a golf-club by mother’s rolling pin or grandma’s ladle.

Pipruit: All right, I think, I’ve got it.​

Commander in Pips: So even if you have 85/15 profitable system, that could lead you to significant profits, you will break the probability foundation by stepping out from the trading plan. As we’ve said, if you will find that a system is unacceptable, then there are a lot of others and you can test them easily, but without discipline there is nothing you can do. It’s better to give your money to somebody else right now.

Comments

rama1232
7 years ago,
Registered user
this will save my life and will keep me in trading.But i still have to find out how to practical make the trading plane and test it before using it.after three year of trading i found this is very important to be in this business.lost almost $10000 hope fully i will get it back.

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