Trading method: the steps of a trade
- 2142
- 0
- 0
Definition of a trading method
A trading method is an action plan to follow on each of your trades. It is a sort of checklist giving you the different steps leading to taking a position. All traders practising technical analysis must follow a trading method. This method varies among traders but the different steps are the same.
Having a well-constructed trading method helps prevent your emotions from taking over your trading. Your position is then taken on objective technical elements (study of probabilities through different chart configurations) and not on a personal feeling about the market. A trading method combines all the elements of technical analysis and risk management. It allows you to gather your knowledge and structure it to open a position under the right conditions.
Step 1: Choose your trade’s time unit
Your trade’s time unit depends on your trading strategy (scalping, swing trading, carry trading,etc.) but it is also a personal choice. Some traders are more comfortable with short term trading, others prefer medium or long term trading. The investment horizon you choose depends on the time you have available to trade, but above all it is important to feel comfortable with it. If you are a novice, do not trade on short time units. Short-term trading involves monitoring your trade regularly and you need some trading experience to control your emotions and act rationally.
Step 2: Identify the direction to trade in
Once you have chosen your trade’s time unit, it is important to identify the trend by analysing a longer time unit than that of your trade. For example, if you trade on the15 minutes, analyse the 1 hour. If you trade on the 1 hour, analyse the 4 hour, etc. The important thing is to give yourself a global vision of the trend to set yourself one-way direction to trade on you trade’s time unit. If you see that the trend in 1 hour is bullish, it is not wise to process short positions on 15 minutes. It is better to do this if the 1 hour gives you a bearish reversal signal.
You can therefore differentiate between your signal chart (time unit of your trade) and the trend chart (upper time unit). This is the principle of the one-way trading book (available free on CentralCharts). To determine the trend, it is important to perform technical analysis to identify key levels. You can also use moving averages to get a quick view or confirm your analysis.
Step 3: Perform technical analysis
Once you have identified the direction to trade, you can analyse the shorter term time unit (that of your trade). This is where you will detect bullish and bearish signals. You can then apply your trading strategy. It is important, therefore, to trace the resistances and supports, identify the chart patterns, analyse the technical indicators and the Japanese candlesticks, etc.
There are thousands of winning strategies. Just remember that it is often the simplest that work best. A miracle strategy does not exist so don't waste your time trying to use unknown indicators or coupling dozens of indicators together, etc. Keep it simple!
Step 4: Plan a trade
Once your technical analysis is completed, your bullish/bearish signals should be clearly identified. The position is generally opened at the exit of a chart pattern or following a break in support/resistance (see: how to trade resistance and support breaks). There are then two possibilities:
-
Placing a buy/sell stop
: You place your stop above/below a certain level (highest/lowest or supports/resistors) taking into account the spread. The great advantage is that you do not need to monitor your chart to open a position. It is also important to determine the level of your stop loss so as to integrate it into your buy/sell order.-
Monitor the chart
: You can choose to open a position manually by monitoring your chart. Your position is opened on a market order. The majority of the bullish/bearish signals come from breaks, the advantage of this technique is that, in certain cases, it helps to avoid false signals (wicks on resistance/support) or to optimize your entry point (position on a pullback). It is important to always wait for the candlestick to close before opening a position if you use this technique (except for scalping strategies).Regardless of the method chosen, it is not wise to open a position if the expectation of gain is lower than the risk (see money management). It is important for the price target to be further away from the entry price than the stop loss. The ideal is to aim for a risk/return ratio of 2. Between 1 and 2, it is OK to trade but it is not advisable for a novice trader to open a position if the ratio is too close to 1.
Step 5: Determining the size of your position
The size of a position varies according to each trade and is a function of several elements:
-
Product traded
: Depending on the stock, index, commodity or currency pair chosen, the type of market will be different and the value of a point will be different.-
Stop loss distance
: The level of your stop loss determines the size of your position and not the other way around. It is important to place the stop loss according to the market level (see page stop loss).-
Desired overall risk
: On each trade, you can set the amount you want to risk. Depending on this amount (to be set as a percentage), the size of your position will vary.Step 6: Exiting a trade
A trade exit can occur in 3 ways:
-
Stop loss hit
: Even if the odds are in your direction, in the end, it's always the market that decides. Your stop loss can also be hit on a volatility movement. It is better to accept losing. Losing trades are part of trading.-
Objectives met
: If all your trade objectives are met, you can take your profits or hold the position if you see that there is still bullish/bearish potential. As you trade, it is important to move your stop loss (formation of a new highest/lowest, etc.) so as to reduce your risk and protect your gains.-
