The backbone of any business lies in its planning. It is almost an unwritten rule that any business that does not have a plan to follow will most definitely follow the path of ruin. Forex trading is also a business and the rules that apply to other businesses apply here as well.
Though there are many forex traders who do realize the importance of having a forex trading plan, very few actually get down to writing out one and the numbers get fewer if you count traders who actually put the plan into use while trading. Then there are many traders who come to their senses after having blown up a couple of their trading accounts and suffered major losses.
Basically a forex trading plan is just a blueprint that details out the essential rules you need to follow while engaging in trade of currencies. Human beings by nature are abhorrent to rules and this aversion to rules is probably the most common reason why majority of the forex traders do not have a forex trading plan drafted out.
Points to Note about a Forex Trading Plan
A forex trading plan is nothing but a roadmap that you need to follow during your forex trading journey. It is obvious that unless you know the directions to your destination you are bound to get lost and even if you manage to get there by asking wayfarers for directions, you definitely will arrive later and probably more exhausted than if you had detailed directions at the outset.
Just like a map is supposed to contain all the necessary details but only as much as is essential to help you get to your destination and nothing more; similarly your forex trading plan also needs to include all the essential details but has to necessarily leave out all the superfluous points. In short it denotes that your forex trading plan must be both concise and detailed at the same time, which is a bit tough to formulate.
While drafting the details, you must remember to include every single point that will help you trade better and you must not leave out any of the helpful tips. But while keeping it concise, remember that more lengthier the plan, less useful it would turn out to be because you are going to be short on time and you must have a smart one-paged plan that you can refer to in a jiffy, just before commencing and during a trade.
Another crucial point to note about your forex trading plan is that you must allow it to be flexible, so that you can keep changing it as you progress in your trading career.
Finally, you must also make use of your forex trading plan to test out new things and experiment while trading. After all you learn more by trial and error.
Drafting Your Forex Trading Plan
In addition to keeping all the above points in mind while drafting your forex trading plan, there are 10 pillars of foundation as well. Unless you have a strong foundation, do not expect to have a strong structure. I have detailed each of the 10 crucial features for your reference:
1) Your Trading Strategy
Be very clear about your trading strategy and write it down in clear words. Whatever is the criterion or criteria that you look for to enter a trade must be included in this point.
2) Clear Cut Time Frames
You can look at various time frames on your chart while trading currencies, but you obviously cannot use all of them at once. Decide and settle down on a particular time frame that you will be comfortable using and then write it down in your trading plan.
3) Pick Your Favorite Currency Pairs
Just like the time frames mentioned above, there are many different currency pairs to trade. But it is not possible to be keeping a close tab on each of them simultaneously. So pick and choose your favorite currency pairs out of the lot and take care to stick to just 8 or lesser at a time. Later on as you gain more experience over time you could add on to your favorite currency pairs.
4) Demarcate Your Limits
You must have a very clear picture in your mind about your risk limits to have a proper trading plan in place. Set your risk limits and once you set them, make sure that you will stick to the limits and not give in to temptations to go beyond them.
Always settle for a safe amount of risk and once you reach this number on any trading day, just stop trading and keep out of your account for the rest of that day. Unless you discipline yourself strongly in this regard it becomes tough to avoid losses.
5) Fix Your Risk Reward Ratio
You must fix your risk reward ratio before you set out to trade and bear in mind that these are not just any random numbers. They have to be chosen after great introspection and must be realistic in order to be effective. Also it would be helpful to you if you set your targets for the week, month etc in advance, but remember that these goals are not set in stone and can / should be changed according to your latest observation and assessment of the markets.
6) Entry Criteria
Set up a certain group of criteria that you will use to enter a trade. This will depend a lot upon your trading strategies that you previously outlined at #1.
7) Exit Criteria
Set up your exit criteria just as you would set up your entry criteria. Also ensure that you have your stop loss levels and profit targets written down.
8) Effective Management of Trading Risk
A good trading plan will essentially have detailed outlines about handling risk. It is simply not enough to have stop loss levels demarcated. You should also have a clear picture about trailing your stop loss in case the situation arises.
The only skill that differentiates an average trader from a professional one is efficient risk management. Rather than looking at your total number of wins, it is more crucial to know if you have been winning more or losing more of your trades, because that is what counts and that is what makes the entire difference. The only way to ensure that your wins outnumber your losses is to have a great trading plan that effectively manages your risks and rewards.
9) Recording Your Trades
Having a written record of your trades and all the details associated with that trade, not only helps you maintain a disciplined approach to your forex trading but also helps enormously in improving and enhancing your future trades. Studying the records of old trades is a great way to introspect and learn from the past mistakes or victories, as the case may be.
Well, if you are a professional forex trader, you will already know how important it is to record your trade details, including the entry and exit plans and the strategies used on that particular trade and the criteria that you applied to base your trading decisions etc.
10) Conclusions of Your Trades
The time after you finish trading for the day is the most important time for your trading plan. You not only have to record your day’s wins / losses but also have to write down what factors or criteria motivated you to take the decisions on that day.
It is obvious that a few days / months later you will not remember all the minute details, so it is important to be regular and punctual in recording everything for later use as described in the previous point.
The most important part of a trading plan is to have a proper judgment regarding the details to be included and the superfluous data to be excluded.