Thursday, December 06, 2012

The trading process

The whole 'life' of a trade, and how a trader executes it, can be broken down into the following series of steps:
  • Observe the markets, keeping an eye out for potential opportunities;
  • Identifying a potential opportunity that matches your entry criteria and risk profile;
  • Open the chosen position (including simultaneously placing an appropriate initial stop level to exit the position without significantly damaging your equity);
  • Managing the trade throughout its life (converting your initial stop into a trailing stop as the trade progresses);
  • Exit the position;
  • Review - Evaluate the trade to ensure that all the criteria of your strategy were adhered to.

With a robust trend following system used on stocks, then the above steps would look something like this:
  • Look at the trend of the indices to determine the bias in your portfolio;
  • Use scans which will automatically identify those potential opportunities that meet the majority of your entry criteria;*
  • Open the position, placing an initial stop per your system parameters, and risking in percentage terms what you have specified in your trading plan;
  • As the trade progress, update the trailing stop per the system parameters and what the charts of those instruments are telling you;
  • Exit the position (this will be automatic as when an initial or trailing stop is breached, then the position will be closed);
  • Review the trade to ensure that you didn't overrule any of your system parameters, or self-sabotage the trade (e.g. close the position on a minor reaction when your trailing stop had not been hit).
As I've said many times before, if you structure your trading appropriately, this only take a few minutes per day, to look for new opportunities (you can do this as little or as often as you like) and to update any trailing stops if required.

You should remember that, if you are using a system or method that has a historical positive expectancy, then all you really need to evaluate on a trade-by-trade basis is that you fully adhere to your system. Once you place the trade, then things are out of your control. The market will do what it wants to do, and that is determined what other traders/investors do, which you have no control over. Concentrate on your end of the bargain - control the controllable.

*You may have some additional criteria, such as checking the bid/ask spread, possibly some chart pattern recognition, volatility and/or volume, or whether the instrument is able to be traded.

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