Having a suitable trading plan is one of the most important aspects of trading. It's there to act as your own personal decision-making tool, helping you answer vital questions like what, when, why and how much to trade. Your plan should cover your personality, attitude to risk, trading goals, risk management rules and any trading strategies you intend to follow.
It is vital for your trading plan to be personal to you. It's no good copying someone else's plan, because that person will very likely have different goals, attitudes and ideas to you. They will also almost certainly have a different amount of time and money to dedicate to trading.
You'll hear these terms used a lot in the industry, often interchangeably, but for the purposes of this course we'll be talking about specific things when we refer to them:
A trading strategy defines precisely how you should enter and exit trades. For example, 'Buy gold when it drops below $1250, sell when it reaches $1350' would be a very simple trading strategy.
A trading plan is a comprehensive blueprint covering everything from your goals, motivation and attitude to risk, through to risk management rules and analysis of past trades. It can (and should) include both your strategies and your commitment to keeping a diary.
A trading diary is a written record of everything that happens when you trade, including entry and exit points, profit/lo
We've seen that trading with leverage gives you comparatively greater profits – but also relatively larger losses. So does that make it riskier than conventional trading?
From one perspective, yes. If you commit yourself to a leveraged trade based on the affordability of the initial margin, rather than your capacity to withstand the potential losses, you're undoubtedly playing with fire.
However, as long as you think of every position in terms of its full value and downside potential, the risk is no greater than it would be when trading directly. Your eventual profit or loss is the same – it's only the outlay to produce it that differs.
There are also a number of steps you can take to manage the risks of trading. We explain these in the 'Planning and risk management' course.
So, provided you understand how leveraged trading works, it can be a very useful tool: there's no need to tie up a large amount of your trading capital on one trade, and you can deal on expensive assets at a fraction of the cost. Used sensibly, leverage can make trading easier and more convenient.
A plan can remove emotional decision-making in the heat of the moment. You should already know your desired profit, and acceptable loss, on every trade before you place it. This means you'll be able to cope with any dramatic changes in the market price as your trade is in progress. Realistically, markets can only go up or down, so you should be able to plan for every eventuality beforehand.
Discipline is an extremely important trait for a trader. Anyone can get lucky on a few trades, but a disciplined trader is much more likely to be profitable in the long run. And if you have a solid trading plan, discipline is much easier to maintain.
Say you start using a simple trading strategy – for example, you go long on the S&P 500 every time it goes up more than 0.5% in one day, with the expectation it will continue to rise.
However, after a couple of trades your strategy doesn't seem to be working very well and you've lost some money. Do you abandon it immediately?
Depending on your circumstances, you might decide to stick with it. You can then find out if there's a fundamental flaw with the strategy, or if you were just unlucky with the first few trades.
If it's the former, is there a way you can tweak the strategy based on the results of your trades? By maintaining discipline and sticking to your plan, you could potentially turn a losing strategy into a winning one – or at least discover how and why it wasn't successful.
By following a trading plan, and maintaining a trading diary, you can keep a record of what works for you and what doesn't. This is useful for analysing your own performance and improving as a trader. A full record of every trade makes it much easier to learn from your mistakes, and to evaluate which trades you won (or lost) by luck or by judgment.