Most people make trading far more complicated than it needs to be. Whilst it isn’t ‘easy’ to succeed at trading, it is a lot easier if you boil it down to its core components. If you do that, there are really only four pieces of the ‘puzzle’ that you need to focus on. If you’re spending time and energy focusing on anything other than these four pieces, you’re simply complicating the trading process and moving further off the path to success.
In this lesson, I wanted to take a simple stripped-down look at the four most basic pillars of trading. For anyone who has gotten off track and lost a lot of money, or for those of you who are new, this article will be extremely helpful for getting focused on what truly matters in trading…
1. Trade Entry Strategy
The first thing to say about trading strategies, is just that you need a simple one. Many traders don’t even really know what their strategy is or cannot easily define it, because they are trying to combine a bunch of different messy methods together. This is wrong and confusing and it’s the first reason why you’re likely not making money in the market.
So, the first thing you need to is learn a simple trade entry strategy that allows you to find high-probability entries into the market. I obviously recommend that you learn the price action strategies I teach in my trading course. But whatever strategy you learn, the most important thing is to commit to one strategy and master it to the point of having no question about when you should enter the market and when you shouldn’t.
There’s an old saying that goes something like, “Success happens when preparation meets opportunity”. If you are not properly prepared and know what your entry strategy is and when it’s present, you will not be able to take advantage of the best opportunities in the market when they arise. You don’t want to lose money in the market just because you were unprepared.
Once you’ve decided on your strategy, let’s say it’s price action, you need to then define exactly what your entry strategy is and write out your entry setups…make a trading plan. Something like this: “This is how I will enter the market…” then describe the setup briefly with a picture of a prime example of this setup.
Then, the hard part: Only enter the market if that (your setup) happens. Which leads me perfectly into the second core component of trading that you need to master…
I like to think of discipline as the ‘glue’ that holds every aspect of your trading approach together. You will need to master discipline in order to stick to your entry strategy, money management strategy and exit strategy. Patience and discipline are basically the same thing in regards to trading; you have to be patient to wait for the best trades and you need discipline to be patient. So, we could just say you need discipline to wait patiently for the best trades; you cannot have patience without discipline, and you need both, so just focus on discipline.
Don’t make discipline complicated, and don’t over-think it. It’s really just about having mastered your trading strategy and then having the discipline to wait for the market to give you good a chance to execute your strategy.
Discipline also means you don’t interfere with your trades much, if at all, after you enter them. As I discuss more in-depth in my recent lesson the key to lasting trading success; the goal is to execute your trading edge (entry strategy) over and over, each time you see it form, and let it play out over that series of trades…that is how you let your trading edge work for you. If you start playing around with it too much (interfering after entering), you will basically be negating your edge. Ironically, it’s much harder for most people to simply enter a trade and walk away from it for a day, than it is to sit there and over-analyse it and do something stupid to it that ultimately causes you to lose money over the long-run.
It takes discipline to stick to your trade entry strategy, to ignore your trades after you enter them, to stick to your money management strategy and it to stick to your exit strategy, that means all of these things are not ‘easy’, but if they were, everyone would be a successful trader. So, you’ve got to do what most people aren’t able or willing to do if you want to succeed at trading; you’ve got to master your own ability to be self-disciplined.
3. Money Management
Next, comes money management. This includes risk management, how much you fund your account with and what you do with profits if you attain them.
The first step is to pre-define your risk per trade. You need to be TOTALLY confident in what you’re risking per trade…you have to literally not care about the money you’re risking on any one trade. This is crucial. You also need to be sure you have enough risk capital in your account so that you can let your trading strategy play out over a series of trades. Otherwise, you won’t give your trading strategy a real chance to work in your favour.
A good starting point would be making sure you have enough money in your account to enter 40 trades of the same dollar risk amount. For example, if you have $3,000 in your account, you could risk $50 per trade and even if you lost 20 trades in a row you’d still have $2,000 left and the possibility of another 20 trades or more. However, if you lose 20 trades in a row and believe you’re sticking to your trading edge…it’s probably not working, or you aren’t actually being disciplined and sticking to your edge. The point here is, you need enough money to act as a ‘buffer’ against getting emotional about anyone trade…
If you have a trade on and you know there’s only $50 at risk of your $3,000 starting amount, it won’t be a big deal for you if you lose. You can go to sleep knowing that even if it hits your stop loss overnight, you will wake up with $2,950 left in your account and you’ll still have at least 19 more ‘bullets’ left before you even lose a third of your starting amount.
The key to managing risk so it doesn’t contribute to emotional trading is two-fold:
- Don’t’ start with money you can’t afford to lose. This is in regards to what you initially fund your account with. If you don’t have any money you can’t afford to lose, then don’t trade live until you do.
- Don’t risk an amount per trade that you aren’t comfortable with. The easiest way to gauge this is to put a sample trade on and see if you can really just walk away for 12-24 hours and not feel the ‘urge’ to check it. You will have to dial-down your dollar risk per trade until you hit this dollar amount that doesn’t ‘spike’ your emotions and keep you checking your trade all day and / or up at night.
Once you start making profits, don’t just compound them in your trading account forever. Withdrawal some each month, I recommend at least 50% of them. There’s no reason to keep excessive money in your trading account, and when you ‘bank it’, it feels more real to you and so you’re less likely to give your profits back to the market.
4. Trade Exit Strategy
Finally, just as you need an entry strategy, you need an exit strategy. I have found that far less traders have trade exit strategies than have entry strategies. Ironically, it may be even more important to have a pre-defined exit strategy or plan, than an entry strategy.
When traders don’t have an exit strategy in place prior to entering a trade, they usually exit with far less profit than they otherwise would have, or they make no profit on a trade that was up over 2 times their risk at one point. Maintaining discipline is a lot easier if you have a plan of how and when you will exit a trade, as opposed to just ‘winging it’ as most traders do.
How you exit a trade will depend partly on market conditions at the time you enter. For example, if there’s a strong trend in place, you may elect to exit a trade with a trailing stop loss or perhaps aim for a bigger risk reward like 1:3 or 1:4, rather than 1:2. Conversely, in a range-bound market you would look to exit near the boundaries of the range or aim for a smaller risk reward like 1:1.5 or 1:2. The point is this; you need to predefine how you will ideally exit your trade before you enter, otherwise you’re basically just ‘driving with no destination in sight’, and in order to get to where you want to go, you have to first know where it is you’re going.
Good trading – Nial Fuller