11 Essential Steps To Create Your Profitable Trading Plan

Trading concepts

Trading plan

Let’s set the stage of trading plan with 2 quotes:

By failing to prepare, you prepare to fail.

Benjamin Franklin

and

Give me six hours to chop down a tree and I will spend the first four sharpening the axe.

Abraham Lincoln

That is the importance of planning. Without proper planning to do anything costs you a lot. You cannot even go to a nearby town without a vehicle and GPS. Then how is trading possible without a proper plan? There are many in the world of trading who have no trading plan and eventually lose their entire capital. Trading is an activity that requires a well-prepared trading plan. Otherwise, don’t even imagine being a successful trader. If you are looking to plan your trading, we have an 11 steps trading plan for you. Let’s begin with the importance of a trading plan and why you need one in the first place? 

  • The key to successful trading is to have a proper trading plan.
  • Your odds of success substantially increase when you are fully prepared, organized, and disciplined.
  • Trading is a risky game that requires an effective trading plan in practice to achieve success.

Why do you need a trading plan?

The answer to this question is simple. As we have discussed earlier that planning is essential to do even simple tasks let alone trading. Trading without a trading plan brings failure even you have loads of market experience. Trading of financial instruments is just like any other business with an organized structure that lets it grow and flourish. 

Moreover, you have to have some plans to tackle sudden market shifts such as market crashes or market corrections. A well-balanced trading plan enables you to remain in line with your trade objectives and goals. It also allows you to make well-informed decisions instead of making hasty ones. That also means that a well-prepared trading plan also brings confidence in and ousts emotions. 

11 steps to create the best trading plan

1. Choose between technical analytical approach and fundamental analytical approach

Your first step should always be to choose between two types of analytical approaches, technical and fundamental. It helps you to narrow down your focus on a few handfuls of scenarios you are comfortable with. It also enables you to identify trade setups and then look for trading opportunities based on those trade setups.

2. Knowledge and skill assessment

Now it is time to rethink your analytical knowledge and skills. Have you the required level of knowledge and skills to do right in live trading? Do you have the confidence to follow the leads given by analysis? That is an important step because you can’t risk your money in live trading unless and until you have enough knowledge and skills to do technical or fundamental analysis. Without proper knowledge and skills, the odds are against you. You will be prone to make costly mistakes.

3. Find suitable trade setups

Once you are confident that you have the required level of knowledge and skills to analyze the market, you can look for suitable trade setups. Trade setups are at the very core of your trading plan. They lead to the trades with the highest probabilities. However, it is crucial to select trade setups that suit you. For example, will you trade the breakout, wait for a pullback to happen, or combine both after viewing a consolidation pattern?

4. Assess your capacity to tolerate risks

Risk tolerance assessment is very crucial when creating your trading plan. It is crucial because it impacts overall trading strategy, risk management, and various other trading activities. In general, traders can be classified into two main groups on the basis of risk tolerance. The first group is risk-averse traders who are reluctant to take risks. They usually invest in less risky instruments. The other group is risk-tolerant who take risks. They opt for a more aggressive approach and aim for high rewards, unlike counterparts who always try to keep risk under control and are content with small profits.

You can also set a risk/reward ratio and realistic profit targets during your risk assessment process. What should be the least acceptable risk/reward ratio? What should be the minimum profit? For example, most of the traders prefer trades with profit potential greater than risks at least three times. It also helps you manage your risks effectively. 

5. Limit your focus on a single market

It is always recommended to limit your focus on a single market after assessing your risk tolerance capacity. All financial markets are different and mastering all of them is next to impossible. Therefore, it is always important to limit your focus on a single market and understand all the nuances associated with it. Traders even limit their focus on a few timeframes on a single market to understand every bit of it. However, you can move on to the next market once you fully understand the first one.

6. Think about your trading time frames

Timeframes or holding periods depend on what type of trader you are. If you are more inclined to short-term trading, your holding period will be a few working hours. Scalping is a short-term trading style with a timeframe of a few minutes to lock in very small profits. Swing trading’s holding period is a few hours up to a few days. Long-term trading involves timeframes ranging between a few days to years.

7. Keep a trading journal and regular look back on it

Keeping a trade journey and regularly looking back on it is very important for successful trading. You have to incorporate it into your trading plan. A trading journal is a document that keeps records of all your trades and how you traded. It documents trading position size, type of traded instrument, trade entry and exit points, trade output, and any other worthwhile field. A trade journal helps you improve your trading skills and also helps spot mistakes that lead to losses. 

It is also imperative to regularly look back on your trading journal. A retrospective look at your trade journal lets you get the most out of it. You can look at your recent trades and observe how they went. You need to make an objective evaluation of your trading performance. For example, you can look back on trades ending in losses and try to find out what went wrong. You can identify mistakes that have incurred losses and try to avoid the same mistakes in the future. Similarly, you can also analyze successful trades and know why and how they were successful. Trading gurus always do that. They keep excellent records to retrospect and learn.

8. Fully understand your trading strategy

A trading strategy is a set of predefined rules that you follow to buy and sell in the financial markets. Knowing all ins and outs of your trading strategy is the key to a successful trading plan. There is no such thing as a “perfect trading strategy.” Every trading strategy has strengths and weaknesses. Therefore, you need to understand your strategy well.

You can also have two strategies but only try a second strategy once you become the master of the first. Having two or more strategies is advised because some strategies work well in trending markets while others in ranging markets. You can have two different strategies for both types of markets. Similarly, you can also have two different strategies for short-term and long-term trading. 

9. Control your emotions

Controlling and managing emotions is the key to successful trading. When your feelings begin to cloud your thinking, reasoning, and judgments, things go wrong. Be like machines as they don’t have to feel good or bad to enter or exit a trade. They strictly follow the set of rules. They enter the trade as soon as conditions are met and they exit quickly when stop-losses get hit.

10. Prepare for trading: Set entry and exit rules

Setting major and minor levels of support and resistance is always important irrespective of your trading system and program. You have to set crystal clear entry and exit points when your set levels are breached. Enter a trade by considering probabilities not emotions. Think and act like artificial intelligence and computers respectively. Computers enter the trade when conditions are met and when the stop-loss gets hit, they exit. That should be your way of trading.

Furthermore, remember that paying attention to exit points is as crucial as entry points. When to exit position is equally important as is when to buy. Most of the traders get trapped in a blind alley because they don’t determine exit points. They cannot be able to sell because they don’t want to incur losses. You have to avoid being clueless and take help from setting exit points. 

Moreover, you also need to understand that losses are also part of the game. Trading isn’t always about winning. Sometimes you win and sometimes you lose. If your stop-losses get hit, don’t overreact. Keep your emotions at bay and try to limit your losses. That is what professional and successful traders do. The summary of the debate is to know your exit points even before entering a trade. You can set two stop-losses if you want. One such trading plan example can be – you set a stop-loss as a protective shield when the situation is adverse. The second is – each trade must also have a profit target as well. Once you achieve your profit target, you can sell a portion of your position and readjust your stop-loss on the rest of your position at a breakeven point. That is how you can balance your trade.

11. Plan how to face and deal with adversities

Stock market corrections and crashes are harsh but realities. Stock markets are also risky and a minor mistake can cost a lot of money. That means, almost every trader has to face the dreaded downfall and drawdown. Therefore, it is also important to jot down some rules to follow during adverse market conditions. Those rules should be a part of your trading plan. An effective trading plan example here can be to take a break and evaluate what went or is going wrong. Figure it out and take a fresh start. 

Final thoughts

The key to successful trading is to have a proper trading plan. Your odds of success substantially increase when you are fully prepared, organized, and disciplined. Trading is a risky game that requires an effective trading plan in practice to achieve success. Most beginners neglect the importance of a trading plan. They even mix a trading plan with the trading system. It is crucial to note that the trading system is a part of your trading plan. It defines your trade entries and exits. On the other hand, a trading plan is your overall way of doing trading which includes other important parts like risk management. 

Once you have a trading plan, you should strictly follow your trading plan. You need to spare some time to retrospect on the previous events and analyze recent trades. Keeping a journal and constantly looking back on it helps you in this regard. Moreover, it is a good idea to review your trading plan itself every now and then. Don’t hesitate to make changes in your trading plan if there is room for improvement. Remember, there is nothing absolute in trading. You should always be ready to tweak a bit and improvise. 

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