A trading strategy is a carefully crafted plan for buying and selling underlying assets to generate profits from investments. Additionally, it helps in creating clear goals to focus on while trading. Of course, it’s easy to create a strategy, but it’s not easy to create one that can be used to generate profit continuously.
There are well-known types of trading strategies like day trading, swing trading, and scalping trading. However, we’re talking about setting some rules for yourself to have a consistent and specific way of trading.
Having a trading strategy is not just for beginners, but for everyone. But as a beginner, you may struggle to create your own.
Therefore, we created this simple guide to help you get started with crafting your trading strategy.
Get to know yourself
Knowing yourself is the first thing you must do when developing a trading strategy. So before anything else, ask yourself a few questions:
- Do you think you’ll be able to follow the strategy you’ll create?
- Are you physically and mentally ready to trade?
- When are you available? How often do you plan to trade?
- Do you have the right trading tools and equipment?
- What do you do when you’re upset? Do you think you can handle the pressure?
Of course, you can add more questions to see that you’re not doing this out of boredom. Trading is a serious matter. If you know yourself well enough, you can create a strategy that can prevent you from wasting your money or revenge trading.
Know how to analyse
Have you already heard about technical analysis and fundamental analysis? Most trading strategies rely on these two.
Do you like analysing historical data? If yes, technical analysis is for you. It uses all available information to identify the behaviour of the price of an underlying asset.
On the other hand, fundamental analysis, as the name suggests, relies on fundamental factors that may indicate whether the underlying asset is overvalued or undervalued. Basically, there’s the real market price, and the “fair value” indicates the status of a security. When the status of security is undervalued, that’s when traders buy, and they sell if otherwise.
Choose the financial market
When creating a trading strategy, things should be specified. And one of the things you should think about is which financial market you’re interested in. Financial markets provide the buying and selling of financial instruments, such as forex, bonds, and stocks.
It’s essential to pick the financial market ahead since the effectiveness of strategies differs from one market to another. For instance, a certain strategy may be effective in forex trading, but not in bonds. Additionally, this is the reason why you shouldn’t use one strategy when trading various financial markets.
Plan your entry and exit
When is the best time to enter and exit the trade? As mentioned, traders use two types of analysis, technical and fundamental, to solidify their trading strategy.
Usually, technical traders enter the market when they’re triggered by technical indicators, like candlestick patterns. As for the fundamental analysis traders, they focus on indicators, like a change in the GDP rate of a certain country.
Meanwhile, you should keep in mind that exiting a trade is as important as entering. If you exit too soon, you might not achieve your target but if it’s too late, you might lose your capital.
So when formulating your strategy, ensure that your trigger point should work well on both sides.
Identify your risk level
Trading comes with risks, but there are ways to limit them. So once you’ve planned your entry and exit point indicators, move on with controlling the risks of your strategy. But how do you do that? While identifying your risk level, you can use a demo account first to avoid losing real money.
Usually, traders focus on the size of their trades and managing their money. If you use stop-loss, you’ll be able to limit your losses depending on the size of your trade. Since it’s your call when to stop, if you don’t know how to manage your money, you might lose them all.
So instead of continuing to trade whenever you lose, you should take a break and think about the situation you’ve been through.
Record and assess your strategy
As you trade using your demo account, record the performance of your trading strategy. Did you follow the rules you’ve set? If yes, did they work? When you have an overview of the performance of your trading strategy, you can now assess if it works. Of course, if things didn’t go well on the first try, you should do a few more runs before revising your strategy.
Although it’s not guaranteed that what happened in the past will also happen in the future, you can still tell if your strategy may work on live trading.
Think of ways to improve
As per your observation, generally, do you think you can work with your current trading strategy? If there are a few flaws, think of ways to resolve them.
For instance, if you think it’s not profitable enough, it’s fine. Even professional traders know that the first trading strategy can’t be profitable. Now, the more you use your strategy, the more you understand the necessary changes you need to make. Moving forward, your strategy will improve until you can earn more profit.
Creating your first trading strategy can be overwhelming. Traders have different opinions about it, and there’s no exact structure on how to make one. But as you trade your way to become a professional, you’ll be able to come up with something worth taking risks for.