Mapping out a trade plan means asking yourself a series of important questions, such as those outlined below. These will help you break down your macro trading strategy (i.e., your overall trading approach) into a set of concrete steps you can take prior to entering each trade.
While this process may require a little more market analysis, we think it’s well worth it. When it comes to trading, concentrating on some details up front may help you avoid a lot of work later. It’s far easier to work out a specific plan before you place a trade than to sort out the details once you’re already committed to the trade.
Analyze the market
Before entering any trade, review your overall market assessment with current market conditions in mind. Are you bullish on the market? How does your perspective compare to the performance of major indexes and to trends in the sector that interests you? If your outlook is different than what the market and sectors are doing, have a solid rationale for bucking the trends.
Developing a technique for scanning the market can keep you focused on your trading goals. It will also help standardize your trading process, making the steps easier to repeat.
Filtering for trade opportunities
Once you've determined your criteria and identified candidates for trades, the next step is to analyze these potential trades according to your specific plan. Determine which primary analysis method—fundamental, technical, or a combination of both—will help you best assess each opportunity. Develop entry and exit signals, which help guide your actions and encourage you to follow your risk management rules.
Assess your trade
Now that you know what you're trading, you need to figure out how you'll trade it. Position sizing will help determine the number of shares or contracts to trade. Are you comfortable with the risk/reward ratio for the position? Do you already have other positions in the same sector? Asking yourself these questions can help you zero in on how large or small your trade should be.
Implement your trade plan
Establish how your order will be routed to the market and the conditions that will lead you to close your position. Be clear about how you will get in and out of the position. This means knowing the order types you'll use for both entry and exit. Do you want to place conditions on how long your order is valid and how it will be executed? Consider a time-in-force condition, which defines the length of time your order will be active. The addition of a bracket order allows you to include your profit and loss exit points.
Review your performance
It's a good idea to periodically benchmark and to assess the ongoing health of your active trades to make sure that they are going according to your plan by assessing: On a net basis, are you making or losing money?
- How is the market overall doing?
- How are you doing relative to the market?
Then based on your assessment you can better decide if you want to reassess your plan for certain trades based on their current performance.
Evaluate your results
Before you forget the details, review each trade. Are you consistently setting profit-exit and stop-loss orders at the time you place the trade? Are you frequently being stopped out of positions? Are earnings or company news surprising you? The more you pay attention to your trading patterns, the more you can make adjustments when necessary. Asking yourself which actions you would repeat and what you would do differently next time can yield insights that make future trades easier to manage.
With practice, you'll get better at building a good trade plan. If you're not doing so already, document each trade at every step of the process—it will change the way you think about your trading. By "training the way you trade" and then "trading the way you trained," you'll increase your chances of staying true to your big-picture trading strategy.