In his blog post, 5 Reasons Most Diets Fail, Mark Hyman, MD, points out that not having a plan is one of the key reasons why most diets fail. He goes on to say that health is not something that happens to you, it’s something you have to plan. Believe it or not, it’s true when it comes to trading. Being a successful trader is not something that happens out of luck, it’s something you plan for. If you want to learn how to trade stocks, developing a trading plan is key. That said, here are some key elements to developing a winning trading plan.
Learn How to Trade Stocks: Developing A Plan
Define Yourself As A Trader
So you want to make $500 a day trading, good for you, but a goal without a plan is just a wish. In order for your goals to become a reality you need formulate a plan just like a business does. It starts by outlining your core strategy.
Where is revenue going to come from?
Take the time to define yourself who you are as a trader and what methods you’ll use to generate revenue. You only need one or two methods to be profitable. It’s better to be great at a couple things than it is to be average at 10 trading methods. Raging Bull is stacked with successful millionaire traders, all doing something different. They are specialists in their respective disciplines.
Find a trading style that fits your personality and then work on developing it. For example, Jeff Bishop found that his bread-and-butter trades are based on the “money pattern.” He’ll use this pattern to signal when to buy call options or put options. He’s got this down pat and it’s not farfetched to see him double his money consistently.
Create Your Trading Rules
Sticking to a rules-based approach will help reduce the anxiety and emotions that come with trading real money. Some key elements of a trading plan should include:
Reason for being in the trade
Can you clearly identify where you see an edge in the opportunity. For example, let’s say you are an event-driven trader and your focus is on trading stocks that have news. A well-known short seller posts a tweet about why they think XYZ stock should be trading at $0. If these are your bread-and-butter trades than you probably have an alert setup for every time that short seller posts a tweet. In this example, your edge is speed and experience.
You’ve done your homework and know that generally when they tweet about a stock it has a sharp decline.
How much are you willing to risk
When you learn how to trade stocks, one thing you need to keep in mind is risk. The amount of money you’re willing to lose on a trade should be inline with the number of shares you decide to trade. For example, if you’re trading an expensive stock and know that the stock can swing $1 to $2 easily, but are only willing to risk $500 on the trade, then you should be looking at a position size at around 300 shares or so.
If you trade more shares you could potentially get shaken out of the trade easily. Ideally, you want to position size the dollar amount you’re willing to lose with a specific level. For example, if a stock is trading at $10.50 and feel like it has support at $10, you can buy 800 shares with a stop slightly under the support level, which should keep you in line with your $500 risk parameter.
Often, inexperienced traders will jump into a trade with no real concept of how much they are willing to risk. Instead, they are only focused on one thing– how much they are going to make. Once they see the trade start moving against them they get emotional and turn a bad trade into something worse.
Know your outs: A good trading plan has a target for profits and one if the trade is wrong. Always have two exit points.
Risk vs. Reward: If you’re risking $0.50 on a trade then you better be making more than $0.50 on the upside. Try to skew trades where the risk/reward is shifted in your favor. If it’s not clear to you, then it’s better to avoid the trade and wait for a better setup.
Trade only your best setups
Once you know what your best trades are you should exclusively focus on them. Stay true to who you are and don’t let fear of missing out (FOMO) interfere with your decision making.
Inexperienced traders are too concerned about how others are doing. For example, maybe you’re in a traders chat room and you missed a trade that a large majority did very well on. You feel like you’re behind so you start forcing trades to try and catch up.
Instead, ask members of your community or mentor what they saw in the trade and where their confidence came from. It’s better to miss a trade and ask questions later than it is to get into something you’re unsure about and lose money.This is key if you want to learn how to trade stocks.
A solid trading plan requires organization. If you want to learn how to trade stocks and be successful at it, you need to develop a plan. Figure out your strengths and weaknesses then develop what’s working and dump whatever isn’t. Constantly review your trades and your process and make adjustments according to how the markets are trading. Once you see that you’re on the right path your goal should shift to trying to get bigger in your best trades. Be patient and stick to your plan.