Forex Trading Plan

forex trading plan

1.1. What is a Forex Trading Plan?

The forex trading plan is the systematic approach to currency trading which controls all aspects of the trading. The trading is conducted through simultaneous application of three different systems - the forex trading system, the money management system and the emotion management system, as is shown below. These three systems are three pillars of the successful currency trading.

forex trading plan

Each of the systems will have its own rule sets (descriptions of the signals/conditions and the actions that they require) related to the object of their operation. The rule set of each system are converted into simple-to-follow instructions - checklists - that the trader or the computer can easily follow. These checklists will govern the whole trading process - controlling the timing of the trade entries and exits (forex trading system) , the value of the opened trades in relation to the account balance (money management system) and the emotional state of the trader (emotion management system). The resultant trade details should be recorded in the trading log and later studied for the ideas on how to improve each of the systems.

1.2. What are Rule Sets?

The forex trading system will contain the rules on which types of technical and/or fundamental signals should be considered and when the trades should be opened and closed. The money management system will contain the rules on what is the optimal per-trade exposure for the trading system which is used by the trader. The emotional management system will set the rules on the degree of emotional involvement permissible for the trader in each of the trades - along with the methods for strengthening the beneficial emotions and weakening the destructive emotions.

1.3. What are Checklists?

The trading system's checklist will contain the exact description of the conditions for the trade entries and trade exits (i.e. which technical or fundamental signals should converge to justify opening or closing of a position). Ideally, this checklist should leave no room for second-guessing the signals that the trading system generates: you either open or close a trading position because all fits or you don't. In most cases such low level of ambiguity is possible only with the mechanical trading systems while the discretionary trading systems, as their name suggests, usually include the possibility of second-guessing the signals by the trader. A trade entry checklist will contain questions (which are most easily processed by the mind) regarding the conditions which will lead to the opening of a position. For example, if the rule set of your currency trading system requires that you open a trade when the 20-day moving average crosses over the 50-day moving average the checklist might record this rule in the following question: "Is the 20-day moving average close to crossing over the 50-day moving average; If yes - prepare to open a trade; if not -stay still". Mechanical trading systems have a distinct advantage over discretionary trading in terms of the frequency that the trading system checklist is gone through - while an average discretionary trader can go through his checklist only a certain number of times per hour without getting exhausted, the mechanical trading systems are incessantly checking the markets for the relevant signals without resting for a single second.

The emotional exposure checklist will contain the instructions for tracking emotional involvement of the trader in the trading process and the methods for controlling it. Even if the checklists derived from the trading and the money management systems are in themselves powerful emotion control systems (or weapons against the emotions), it is necessary to have a separate standalone emotion management system, given the persistence of the destructive emotions. As an example of the question that can be asked in the emotional exposure checklist - "Am I getting angry when the stop-loss is hit; if yes - I should remind myself that the losses are the inseparable part of successful currency trading."

Successful forex trading requires that all three trading systems work in harmony with each other (all three are equally important) - that the trades are opened and closed when there is no conflict between the systems' instructions (checklists). The allocation efficiency calculator (Please note: This calculator requires that Javascript is enabled in your browser) demonstrates the necessity of meeting the constraints of both the forex trading system and the money management system. The combined effect of these two systems on the trading is shown by the "Math.Exp.*% Risked" cell on the forex trading simulator.(Please note: The size of this page is 0,6 Mbs and it requires that you have Flash installed and Javascript enabled in your browser).

Note: It should be noted that the emotion management system is only required when the trader is manually executing the signals of his or her trading system. If the trading is fully automated the emotion management system can be dispensed with - because no emotions will be interfering with the process of the currency trading.

1.4. What is the Trading Log?

All information regarding trade entries and exits should be recorded in the trading log. If you are trading a discretionary trading system you will need to manually enter this information. If you are trading with a mechanical trading system the conditions for trade entries and exists will usually be recorded automatically. The trading log will tell you how well your systems are working under the current market conditions. You can analyze this information and use your findings to change the way your systems operate - so that you can achieve better results with your trade timing, position sizing or emotion control.

1.5. Mastering Forex Trading

Trading is often compared to business. If foreign exchange trading is business then the forex trading plan is your business plan which should be prepared before you start trading with the real money. The better you prepare this plan the more success you can expect to achieve in real currency trading. To assist you in this process we have selected the best books that you can use to create your own trading plan. You can also browse this site for ideas on system development starting from the top system description pages (the links at the start of this page) and then going down to the pages describing individual system components.

Even if forex trading is a business it differs significantly from traditional brick and mortar businesses. Trading like any business is subject to geometric growth if managed properly – but only the trading allows to completely control this growth and its speed – with no customers and competitors and other external forces like government regulations affecting your money making ability and the speed of your account growth. There are no real competitors when you trade on the forex other than yourself – global investment banks and hedge funds that move the price don’t know you exit (unless you are one of them) and possibly will never know….they don’t care where you place your stop losses and profit targets. The only way you can reduce your long term profit potential is by deviating from your trading plan. Nothing else has the power to take the success from you. In fact, the best definition of success in the forex trading is following your forex trading plan with %100 precision.

Following your trading plan with 100% precision shows that you trust yourself and believe that the knowledge that you have encapsulated in your systems will with time help you to reach your financial goals. Following your trading plan with absolute exactness comes from the master principle of currency speculation which requires that no aspect of the trading should be left to chance. Only by the conscious and ac tive control of each and every aspect of the currency trading - that is, by following your forex trading plan - can you expect to be successful in forex trading.