“Before you can trade you must first have a trading plan. A trading plan is written while the market is closed to tell you what to do when the market is open. A trading plan tells you how to specifically execute your trading system in real time with real money. A trading plan forces discipline and consistency onto your trading. It will force you to create a framework of execution when your mind is clear.”
This is the first paragraph of an article written by Steven Burns (@SJosephBurns), a fellow I follow on Twitter. This dude has some seriously good stuff about trading and I highly recommend his site, www.newtraderu.com/.
Needless to say, once I found this article I put down my coffee cup, gently removed the cat from my lap (let me emphasis gently, she hates being removed), put the specs on my nose and started to read. This was a juicy read for me because it was a confirmation of my weekly rants.
A Game of 20 Questions
You know the game of 20 questions? Someone starts by thinking of an object. It could be a cloud, a computer or a fainting billy goat.
You are then tasked with finding out what that “thing” is through asking 20 questions or less.
After you ask all 20 questions you should be able to name the article.
Here are the questions you will ask. Each one will start with, “When I trade”
1. What markets will I trade?
2. What timeframe will I use?
3. What will be my entry signals?
4. What will be my exit signals?
5. What is my exit plan?
6. Will trailing stops increase profitability?
7. Will I have a price target or will I just leave profits open-ended?
8. Have I backtested my trades across multiple market environments to ensure they were profitable long term?
9. How big of a position size will I take for each trade?
10. What maximum loss on any one trade can I tolerate?
11. What are my goals for annual returns?
12. What do I want to limit my maximum drawdown to?
13. What is my expected winning percentage?
14. What is my goal for risk/reward ratio?
15. How many open positions will I have at one time?
16. How much will be my maximum risk exposure at one time?
17. How will I position size?
18. Will I use margin/leverage?
19. Are the markets I am trading liquid enough to short?
20. Will I keep performance records to monitor the quality of my trade executions?
When you answer all these questions you will have just written your Trading Plan.
My Journey Through These Questions
These are precisely the queries I had to address when I undertook algo development. Needless to say, my first algorithm took a long time. I had to answer each one in excruciatingly precise detail because I was teaching someone else to make my trading decisions for me. Ok, I was really “teaching” a computer. But once a poor soul begins the laborious task of “explaining” concepts to a computer, you realize very quickly computers are really, really dumb.
Try coding “Buy the Dip.” “Buy when the trend is up.” “Short when the trend is down.” Thus my rant in my article Algorithm Development Process.
And why I wrote this What’s Your Style?.
An algorithm will grab you by the collar and bring you face to face, eye to eye and demand “what the heck do you mean?”
For example, I was working with an advisor last year who wanted me to code one of his systems. He wanted to go long when the market was above the 200 day MA and go to cash when the market was below. Sounds reasonable, doesn’t it? However, there was a pregnant pause in the conversation when I asked, “What is ‘the market.’”
Is it the DOW, the SP500, the Wilshire? And if it was anyone one of those how do you accommodate for it changing over time?
All these “markets” are quite different today from what they were even last year.
Do this while the market is closed
So yes, you need to ask these questions BEFORE you trade. They should be written down, put in a safe place so they don’t burn should your house catch fire. Yet easily accessible.
Pick a quiet room, no TV, no distractions and pen your answer to each question. As you’re doing this recognize the reaction you have inside to each one. If it elicits an internal reaction try to figure out why and if it is reasonable or not.
When I first began developing the algorithms and had these questions in my face daily, I noticed my reaction to the margin/leverage question. As you know I’ve had the come-to-Jesus margin call and it was then I decided QiT would not use leverage. I’ve loosened that stance since then on the advice of my algo developer but my initial reaction was,”I’m not going there.”
Your answers will change over time so don’t chisel these answers into a stone tablet. Your answers will change over time so don’t chisel these answers into a stone tablet.
Maybe use an editor like Word editor so you can make the needed changes as your trading changes.
We’re the Plan in “Plan your Trade and Trade your Plan” – TraderJanie
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