Lesson 32 – Creating a Trading Plan, A Guide for Forex Traders
Before we actually start making trades, we need to create a trading plan.
If you just go guns blazing, diving into the market and placing trades without a proper plan, you’ll be shredding through your account balance before you even realize what is going on.
Of course, you may get a lucky streak at the start, but ultimately, over time you will lose more money than you will gain.
Why do I need a trading plan and how is it different from a trading strategy?
When we talk about a trading plan, we don’t mean a strategy of when and where you should enter and exit trades. A trading plan is meant that you should have an overall idea of what your goals and targets are for trading and how much time and funds you can dedicate toward those targets.
You should be realistic and honest to yourself about your trading plan and what you hope to achieve. This will help regulate your decisions of when and how much you will want to trade.
Having a good foundational trading plan will help you stay objective in your trading and not get carried away when things are going well, or stuck if things aren’t.
It will protect you from letting your emotions get the better of you, and therefore you should always make all of your trades around the basis of a legitimate trading plan. It will also help you develop discipline, which is a key skill for any successful trader.
How to make a trading plan?
Here is a quick guide you can follow to help create your trading plan. Of course, since this is personal, feel free to include other things that are important to you.
1.Make clear what your motivation is for trading
It’s best to figure out and have clear why you want to trade. Do you want to become a full-time trader? Do you want to just generate some extra income in addition to your full-time job? Or do you want to become an expert on the matter and join a firm on Wall Street?
These are the types of questions you should be asking yourself about why you want to trade.
Then once you have that answer, write it down and keep it in mind when you’re trading. Later on, you can refer back to it later when you want to remind yourself why you started and see how far you’ve come.
2. How much time do you want to allocate to trading?
Another extremely important issue is setting out how much time you can commit to trading.
Are you free to commit 30-40 hours a week or do you work four jobs and have only a few hours of free time at most? Can you trade during job work hours, or only outside of working hours?
If you are restricted in the amount of time you can dedicate to trading, keep a fixed portion of hours for trading and make sure that it stays fixed and separate from everything else.
You don’t want any overlap between trading time and time that should be used for other things, or else you won’t be fully concentrated for either of them. Also, you should make sure the amount of time you spend is consistent, don’t spend too long and don’t spend too little.
Consistency and discipline with your schedule are key and will make your trading more sustainable and less likely to interfere with other things in your life in the long run.
3. How much funding can you commit to trading?
This is extremely important. NEVER risk money that you need for other things.
You should be comfortable enough with losing that money and it not resulting in a detrimental effect on your life.
Also, if you have too much skin in the game with too much money, you will not be trading optimally.
It will be virtually impossible to stay cool and objective. You’ll become more risk-averse and take profits too early. Your money then becomes scared money, and this will lead you to the wrong decisions motivated by fear.
Keep the amount of capital invested to a reasonable amount that you are comfortable with.
4. Clearly define your targets and ambitions
It’s similar to the first point in this list, but defined quantitatively.
An example of this could be, “In the next year, I want to grow my account balance by 25%”.
This will help you keep track of your progress and set defined milestones you can stick to and help guide your motivation towards.
Also, the feeling of accomplishment when you hit those targets is a very nice feeling that helps fuel your motivation to keep learning about trading and getting better at it.
5. Risk tolerance
Here you need to figure out how much you are willing to lose on each trade before you cut losses. Of course, the smaller you go, the safer you’ll be, but not too small that you won’t tolerate any fluctuations.
It is often suggested that roughly 1-2% per trade is a sensible amount.
It’s also a good idea to set a limit on the daily losses you can take. So for example, you can cut things off for the day if you lose 2 or 3% of your total balance.
Failing to set a strict cut-off for bad days will just make them worse as you continue to trade badly and increase your losses.
6. Pick a select currency pair and time period to work with
The best advice I can give when starting out is to stick to one currency pair and a specific time period.
A lot of people throw themselves into multiple different currency pairs and time frames.
As a result, they end up not really mastering anything and learn very slowly about how the markets really behave because they’re so spread out and unfocused.
To really improve your success rate, take one currency pair and a specific time period, learn everything there is to know and how to exploit the market to your advantage.
Later on, when you’ve really mastered that subset, you can add another currency pair that interests you.
Via this method, you’ll slowly grow your expertise whilst ensuring long-term success in the currencies that you trade with.
7. Create a trading diary
Finally, record every trade you do. It’s really important that you do this as it is one of the main ways for you to learn and improve. There are many applications you can find online to help keep track of your trades.
What’s important to log here are the reasons why you entered a trade, how the trade actually performed, how you analyze it afterward, and what you could have done better to make a better decision.
Keeping this analysis and reviewing often really helps to improve your trading optimality and reduce the number of mistakes you make.
Of course, you will still make mistakes every now and then, but recording and analyzing them will bring you forward as a trader in your ability to succeed.
Mistakes are there to be learned from, not forgotten.
Okay, that was it for this lesson. In the next lesson, we will go over “Risk Management Basics”. See you there!