I. Why You Need a Trading Plan

Up until now, you’ve learned a lot about basic trading concepts. But still, you might struggle with executing successful trades. It’s not because you lack knowledge; it’s because you don’t have a trading plan. Understand? You need one.

Have you heard of the Enneagram, a personality theory? We can adapt it to improve your trading psychology. In the Enneagram, the seventh dimension represents planning skills, while the third dimension reflects execution abilities. Successful traders excel in both—they create solid plans and rigorously follow them.

Without a good trading plan and strict execution, your results may end up at zero or worse. Think of your trading plan as a map to success—it continuously reminds you how to make money. Sure, you can trade without a plan, but be prepared for potential losses.

Now, let’s explore why you need a trading plan:

1. Direction and Consistency:

• A trading plan acts like a compass, keeping you on the right path. Consistency matters—it’s a key measure of a trader’s success.

• Imagine having a great trading system but constantly ignoring its rules. Your plan ensures discipline.

2. Trading Is a Business:

• Successful businesses thrive on planning. Trading is no different—it’s a business too.

• Luck plays a role, but disciplined execution matters more. Luck isn’t something we control, but our actions are.

3. Thorough Planning:

• Just like hackers plan their intrusions, trading deserves meticulous planning.

• Emotionally and intellectually challenging, trading demands no less.

4. Long-Term Profitability:

• Luck or experience may lead to occasional gains, but consistent profits require a solid plan.

• Excellent traders stick to their plans—they’re consistent.

5. Avoid Unexplained Gains or Losses:

• The scariest scenario isn’t losses—it’s unexplained gains from incorrect actions.

• Short-term success can mislead. Stay focused on the long term.

6. Understanding Feedback Loops:

• The universe operates as a positive feedback system. Financial markets too.

• Locally, outcomes may seem contradictory, but overall feedback remains consistent.

7. Vision and Willpower:

• Vision shapes your plan, and discipline ensures execution.

• These qualities rule our world.

Now that you see the importance, let’s dive into the specific components of a trading plan.

II. Essential Elements of a Trading Plan

A trading plan can be simple or complex, depending on your preference. However, the key is not the level of complexity; it’s whether you have a trading plan and whether you strictly follow its instructions. Regardless of whether the plan is simple or intricate, it must include some essential elements.

Think of it like an operating system for a computer. No matter what an operating system must have certain basic components; otherwise, it cannot function as a system. Just like a flawed computer program can lead to security issues and economic risks, a flawed trading plan can cause problems in the market. But if we consider these aspects when creating the plan, we can reduce unnecessary losses.

1. A Trading System

This is the core of your trading plan. The trading system you adopt must undergo thorough backtesting and at least two months of forward testing on a demo account. Ideally, you can start implementing the plan during forward testing, as it allows you to get acquainted with your system and adapt it to real trading conditions. So, use your trading plan early to guide your trading behaviour and record valuable trading statistics. This will help you refine and update the system before you start live trading.

As mentioned in our trading system course, you’ll need to choose a time frame, define entry and exit rules, risk management guidelines, specific currency pairs, and position sizing rules. As your trading experience grows, you can make deeper modifications to your system, incorporating personalized settings and elements. However, always start with a simple and efficient system, gradually building a trading approach that suits your individual style.

For example, as a day trader using the 10-minute chart, I follow the direction indicated by a moving average crossover and supported by other indicators. I only trade EUR/USD and never risk more than 2% of my total capital per trade. I trade with 5 mini lots and adjust my position size as my account grows, but I always adhere to the 2% maximum loss per trade rule.

2. Your Trading Schedule

Your trading plan plays a crucial role in determining three things: when you analyze the market and plan your trades, when you observe the market for entry opportunities, and when you evaluate your behaviour and performance during trades.

As an individual trader, it’s challenging to maintain a fixed schedule like a trading team does. However, try to allocate specific times for these tasks. Consistency is key.

3. Your Psychological State

Controlling emotions during trading is one of the toughest challenges. Your trading plan should address the psychological state you’ll adopt while trading. While techniques like neuro-linguistic programming (NLP) or progressive muscle relaxation can help manage negative emotions, I recommend sticking to discipline for long-term emotional resilience.

Fear and nervousness are natural instincts for self-preservation. However, when facts repeatedly show that fear and nervousness are unnecessary, your subconscious will help you break free. Remember, emotions are not the issue; it’s how you act based on your trading plan that matters. Discipline is the line between fear and caution, greed and courage. Your trading plan serves as the measure of your actions, not the outcome.

4. Your Weaknesses

We all have weaknesses. Reflect on how you can improve. Your trading plan should address any recurring issues, especially those leading to trading failures. Beliefs shape values, which shape behaviour, which shapes results.

If you keep making the same mistakes, consider whether your beliefs or concepts need adjustment. Behind every trading action lies a belief; everyone has their shadow. It’s not necessarily bad, but it can hinder progress. Here are some common self-reflections:

• “I overtrade, opening too many positions and losing control.”

• “After a losing trade, I seek revenge and try to recover all losses.”

• “I often think the current situation is different from the past, leading me to change my trading rules and deviate from the initial plan.”

• “I tend to increase position size when things seem favourable.”

5. Your Trading Goals

Making big money isn’t necessarily the best trading goal; it’s more of a personal vision. Take a moment to think about what you truly want as a trader. Do you want trading to be your livelihood? Based on your current experience and skills, what realistic profits can you expect?

Your goals may include the feeling of riding a wave, a sense of freedom, and strong self-discipline. Perhaps you want to improve yourself or avoid being at your boss’s mercy. Goals are highly personalized. Ask yourself what specific outcomes you seek from trading. When facing tough market conditions, these goals will stabilize your emotions.

6. Your Trading Journal

A trading journal is a valuable tool, similar to network security logs. It helps you identify flaws in your trading system, making you a better trader. Make sure to record all trade details and reasons. During trade reviews, analyze your journal entries individually and holistically.

III. Constructing a Trading System

In previous discussions, we emphasized the significance of building a trading system. However, trading requires more than just an isolated system—it necessitates a broader framework for regulation and management. We should draw upon the essence of systems theory and control theory to create effective trading methodologies. Thus, a trading system encompasses not only decision-making but also the entire trading process.

1. Forex Trading Complexity

Foreign exchange (forex) trading, like all financial transactions, is both stimulating and intricate. Traders must contend not only with currency rate fluctuations but also with the underlying complexities driving these fluctuations. Additionally, they face the emotional uncertainties inherent to investors. Unfortunately, these complexities and uncertainties contribute to the long-term failure of most forex traders.

2. Achieving Long-Term Profitability

To survive and consistently profit in the forex market, one must have a deep understanding of market dynamics. Establishing a systematic approach that quantifies all complexities and uncertainties is crucial. All trades should follow an organized and intuitive process, ultimately leading to low-risk, high-return outcomes.

3. Components of a Comprehensive Trading System

A well-constructed trading system, often referred to as a “big trading system,” comprises three essential components:

(1). Trading System: This forms the core of the process, defining how trades are executed based on predetermined rules.

(2). Risk Control System: Managing risk is paramount. It involves setting limits on position sizes, maximum allowable losses, and other risk-related parameters.

(3). Monitoring System: Monitoring ensures adherence to the trading plan. It involves oversight by a team rather than an individual trader.

4. The Role of Monitoring

Human nature introduces imperfections—ups and downs—that can lead to irreparable losses. Historical examples, such as the Nick Leeson-Barings Bank incident, the Hunt brothers’ silver debacle, and Chen Jiulin’s China Aviation Oil fiasco, demonstrate this vulnerability. These traders experienced moments of glory but ultimately relied too heavily on personal abilities. Even if they succeeded a thousand times before, a single failure could wipe out all their gains.

Every trader experiences phases of success, but we are all human, and susceptible to greed and fear. Consider a well-known futures trader who consistently profited from 1997 to 2001. However, by 2002, overconfidence led to significant losses—a classic case of relying too much on personal heroics. Had this trader adhered strictly to a trading system or had a risk control officer overseeing decisions, the outcome would likely have been different.

5. Team-Based Approach

The concept of individual heroism must be abandoned. Instead, teamwork is essential. Divide responsibilities among team members:

• Administrators: Continuously improve the trading system, establish reward and penalty mechanisms, coordinate and review trading plans, and avoid interfering with daily trading.

• Traders: Provide daily trading logs, report profits to investors, strictly follow the trading plan, and promptly communicate any deviations due to market changes.

• Risk Control Officers: Monitor account performance. When losses approach predefined thresholds (e.g., 8% or 10% of total capital), issue warnings or take corrective actions. Regularly check trading logs and report daily activities.

6. Key Principles for Trading Systems

(1). Simplicity: Complex markets require simple, precise, and efficient behavioural models. Avoid overcomplicating systems, as excessive complexity can hinder timely decision-making.

(2). Avoid Over-Optimization: While seeking excellence is natural, remember that market prices contain randomness and psychological factors. Linear trading systems capture regularities sufficiently; excessive optimization adds little benefit.

(3). Identify Patterns from Historical Data: Understand that markets primarily move in three directions: up, down, or sideways. During sideways (consolidation) phases, avoid trading or minimize losses. When trends emerge, profits become more predictable.

7. Risk Control Strategies

(1). Quantify Risk: Determine position sizes and maximum allowable losses in advance.

(2). Diversify Risk: Don’t put all your eggs in one basket. Diversify across long and short positions and unrelated instruments.

(3). Realistic Profit Expectations: Avoid chasing excessively high returns. A consistent annual profit of around 50% is commendable in any industry.

IV. Conclusion

Your trading plan will be your trading bible.

Read it every day and follow what it says.

While you can have access to trading tools from around the world, without a well-structured plan to combine them, you won’t become a successful trader.

Remember: You’ve embarked on a business venture. To succeed, you need a plan and must diligently execute it. Ensure your plan accounts for potential changes and has contingency measures in place.

In conclusion, plan your trades and trade your plan!