A trading plan is the cornerstone of a disciplined trader. It is like a battle strategy for a warrior, a blueprint for an architect, a curriculum for an educator. It is a thorough document of a trader’s research, objectives, rationale, systems, and preferences that guide their decisions.
Successful traders should risk no capital until they have developed a trading plan. This guide will take you through the entire process of building a trading plan for safety and success.
What is a Trading Plan?
A trading plan is a personalized guide for your trading decisions that thoroughly outlines everything you need as a trader. This includes your goals and objectives, how you will reach them, why you want to achieve them, and how to objectively evaluate your progress.
For example, your goal is to earn 2% monthly profit by trading the GBP/ZAR. You know that the best time to trade forex in South Africa is during the session that overlaps with London and New York, so you decide to trade during these times.
The trading plan can be created in various ways, and each trader must take the time to develop and customize their own plans based on their goals and objectives.
Most forex trading plans are detailed and lengthy, especially for active traders like day traders or swing traders who make numerous trades in a short amount of time.
Why You Need a Trading Plan
It’s already well-known that forex trading is risky, whether you trade major or exotic currencies, as a beginner or an expert, or even through an institution. Forex trading just comes with inherent risk.
A trading plan prepares you for this risk and guides you to make objective decisions rather than emotional ones. It also enforces discipline throughout the noise of the forex market and allows you to have a structured approach to your trading profession.
Finally, and perhaps most beneficial, a trading plan helps significantly reduce stress. Because you already have a clear roadmap for your objectives, you can stay focused on achieving them.
Creating a Trading Plan
A trading plan is a well-researched, in-depth, and thorough guide that helps you make trading decisions. A well-crafted trading plan is essential for safely and successfully navigating the financial markets.
Its contents should be as general as to answer why you began trading in the first place and as specific as when to enter and exit trades. More importantly, it should outline a get-out strategy when the market turns against your favor.
A good trader also knows that a plan should be reviewed and updated regularly. Otherwise, you run the risk of trading with an outdated trading plan.
As a general rule, never execute a trade without a trading plan. This is a sure way to watch your investment vanish.
Let’s get down to it and create a forex trading plan!
Goals and Trading Objectives
Your goals and trading objectives should clearly outline what you aim to achieve with forex trading. These could be specific profit targets, time-sensitive targets, risk management goals, or personal development milestones.
Rationale and Principle
This section defines your trading style, personality, and overall views as a trader. It should also answer why you are trading and what motivates you to become a forex trader.
For instance, you might have started trading because you are good with numbers and want to improve your financial situation. Filling out this section can boost your morale and uplift you during drawbacks.
Specific Instruments
This outlines the specific instruments or currency pairs that you will trade to achieve your goals.
For instance, you will focus only on major currency pairs during the regular season and shift to currencies with high remittances during the holidays.
Market Conditions
This section of your trading plan identifies the market environment in which your trading strategy and style work best.
For instance, you could say that you will only trade during trending markets while avoiding range-bound markets. Additionally, you can also write that you will not trade during specific economic conditions.
Trading Strategy
Think of a trading strategy as your trading rule book.
This outlines the specific strategies you will use, including technical analysis, market analysis methods, entry criteria and exit points, and the types of trades you will focus on.
Furthermore, it should outline how to escape situations that are not in your favor! A proper trading plan should indicate a good exit strategy for any scenario.
Capital Allocation
This states how much money you will allocate to your trade, including setting aside a portion of your capital for trading.
Some traders also specify how much of their regular earnings they will use for capital. For instance, a part-time trader with a day job can indicate they will use 10% of their savings for forex trading. Meanwhile, for every monthly salary, they will put aside 25% in savings.
Risk Tolerance
This should clearly state the amount of risk you are willing to take for each trade. It outlines the risk management plan, which includes position sizing, stop-loss levels, and risk-reward ratios.
Typically, traders follow a 1% capital rule, which means they risk only 1% of their capital for every trade.
A trader should only adjust their risk tolerance after reviewing and evaluating their existing trading plan.
Evaluation of Trading Performance
Adding a section to evaluate your trading performance allows you to set up a system for regularly reviewing and assessing your trades.
This could involve keeping a trading journal, analyzing your trades, and setting fixed schedules when you will conduct evals.
Evaluation allows you to assess your trade management objectively.
Trading Plan Example
Feel free to refer to the basic trading plan below as a reference. Make sure to revise and adjust based on your trading needs.
| Element | Example |
| Goals and Trading Objectives | Short-term goal: Achieve a monthly return of 2% on my trading capital Long-term goal: Grow my trading account by 20% over the next year Personal development: Improve my technical analysis skills and maintain a trading journal |
| Rationale and Principle | I want to trade because I want to improve me and my family’s financial situation. I will trade with confidence and discipline, and I will not panic during unfavorable market conditions. |
| Specific Instruments | I will trade the major currency pairs EUR/USD, GBP/USD, USD/JPY, and AUD/USD because of their high liquidity and lower spreads. |
| Market Conditions | My preferred market conditions are trending markets with a clear directional movement. I will avoid highly volatile markets during major news releases. |
| Trading Strategy | For technical analysis methods, I will use a 50-day moving average and Relative Strength Index. Entry criteria: Price crosses above 50-day moving average and RSI is above 50 Exit criteria: Price crosses below 50-day moving aveage and RSI drops below 50 For fundamental analysis methods, I will monitor economic indicators in the country of my focus currency pairs. |
| Capital Allocation | My total capital is $10,000 and I will only risk 1% of total capital per trade. I will only open a maximum of 5 trades at any given time. |
| Risk Tolerance | My risk-reward ratio is a minimum of 1:2, while my stop-loss is set at 1% of total capital per trade. |
| Evaluation of Trading Performance | I will maintain a detailed journal for all trades. My monthly review is set every 3rd Saturday of the month. |
Having a detailed trading plan can help you stay focused, disciplined, and consistent. Make sure that you complete your trading plan before you start trading. A trading plan makes every single trade matter!
Photo by Nicholas Cappello on Unsplash (Free for commercial use)
Image published on June 11, 2019
