Whether you are trading Stocks, ETF’s, or Forex, here are 3 simple but very important rules that you should make part of your 2013 trading plan!
While it is still early in the New Year it is important to set out clear objectives and goals for your trading plans. Last week we spoke about the importance of committing your trading plan to writing. Let’s discuss the 3 things that should be part of every successful traders plan.
First, when entering a new trade, ALWAYS use an initial stop loss order. A good system should identify an appropriate level to set your initial stop loss just in case your trade goes against you. While you may have a great system, no system is perfect and you need to plan the exit if your trade goes in the wrong direction. I generally like to use an initial stop loss order that is based at least in part on a relevant price action. Another good rule of thumb, is to use a 2 ATR (AVERAGE TRUE RANGE) as an initial stop. Also, once you have identified a good initial stop loss level the other part to the rule is leave that stop loss order alone until the trade moves in you favor. Don’t get in the habit of “widening” your stop loss to leave a losing trade in longer and potentially lose even more. Give your trade enough room in the first place so you won’t get stopped out to quickly. Once the trade moves in your favor, you can move the stop to break-even and start trailing the stop to start protecting your profit as it continues to move in a profitable direction.
Second, make sure that whatever trading system or method you are trading has good clear entry signals and then make sure you follow them. One of the easy mistakes for traders to make, especially new traders, due to uncertainty or lack of confidence in a trade, is to hesitate to enter a trade at an entry signal. Then, once the trade starts to move in a favorable direction, to be tempted to enter the trade too late after much of the move has taken place. Often, this is referred to as “chasing” a trade by entering after the best entry. If you miss at trade simply wait for the next good one, don’t enter a trade late just to find yourself in a potentially losing position. So the key here is, if you miss an entry, let it go!
Third, control your risk by never allowing yourself to trade with more than 2% risk per trade. It is important to justify you risk in real dollars for each trade, before you enter a trade. One way to do this is to make sure you calculate the dollar amount of risk that is appropriate for each trade. For example, if you have a 10k account, you calculate that 2% of 10k is $200. If the difference between your entry price and stop loss price is $2 than your appropriate position size would be 100 shares. So, trading the correct position size based on your account size is the key to controlling risk.
If you follow these three trading rules, using initial and trailing stops, not “chasing” or forcing trades, and keeping your risk at 1-2% max risk per trade, you allow for a better chance of success in the long run.