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As we enter the New Year, it would be an excellent time to review how professional traders use clarity and structure to obtain this status. All traders start as newbies, but the difference in success is how they structure the knowledge they have learned. When I was instructing futures classes, I saw many attempts at creating trading plans, and unfortunately, I saw the results of traders without trading plans.
Any professional trader would agree that you're destined for failure without a trading plan. But, even if you've written a trading plan, it must be written in a fashion that you, as a trader, can follow instinctively without consciously thinking about your next move in the market, regardless of the volatility.
Trading is in a constant state of change. Several managed money traders, institutional money managers, commercial traders, large individual traders, and even retail traders have computers trading their strategies for them. The industry refers to these computer program trades as algorithms. These computer trading strategies allow traders to trade with market trends for long-term gains and scalp markets for small profits, depending on their trading style, without hindering human emotions.
Algorithm – (pronounced AL-go-rith-um) is a procedure or formula for solving a problem.
Frequently called algos in the trading/investing community. The word derives from a mathematician, Mohammed ibn-Musa al-Khwarizmi, who was part of Baghdad's royal court and lived from about 780 to 850. As you can see from the date when algorithms were first written, they are not new to the world, but they have become more prevalent in the past decades in the trading industry.
Many traders have found that more than having a successful plan was needed. Over time, they discovered that human emotions could destroy the success of these profitable strategies.
Before algo trading came to the markets, trades were missed during the Globex night sessions by being away from the screens. As well as today, there are numerous markets to watch simultaneously, which is humanly impossible. But, the consistency in which an algo trades is the core reason for using them; all their trades are precisely executed for each trade setup.
When the algos are used for scalping, they send orders to the markets at speeds that would be virtually impossible for the human mind to execute. When using algos for their longer-term strategies, they need something that keeps them with the current price trend—not allowing any human emotion to sway them from their decision to be long or s
Professional traders realize that trading is a probability business. Once the algo detects a buy or sell, the order is immediately sent to the exchange, which will go into the queue with other orders. When traders use a style with no human input, they are called non-discretionary traders.
To get to this point in their success, professional traders needed a few things. A trading education so they know how to trade. Next, a strategy to trade the markets and a written plan. After that was in place, their system would be back-tested to ensure a high probability of success and relatively low drawdown periods(series of losses.)
After this, the most crucial part of their success was to program their strategy so the computer would use their rules as an algo.
Result – profitable professional futures traders.
So, we know how many of these professional traders trade, but how would this help you as a trader?
Create your trading plan, just like they do, and trade like an algo! – Emotion Free!
To do this, you need to make some changes to your trading plan if you are not already profitable. Make the changes that will result in your trading plan to trade like an algo.
In a recent article titled "Getting Your Trading Edge From Consistently Profitable Traders," you may find some rules to assist in tweaking your trading plan.
Let's look at a few things that might help you do that:
- Trigger points for action
- Journal your trades
- Novice instincts could be emotional decisions
Trigger points for action
Professional algo traders have precise conditions that must be met before the computer is allowed to send instructions to buy or sell. An algo must be written in a black or white format or as 0s and 1s in the digital world. Too many unsuccessful traders have plans with extensive gray areas of when to take action or when to terminate a trade once in it.
Review your trading plan and see if an algo could read your strategy. If there are undefined variables or gray areas, the algo will not be able to execute the system as designed. Then change them to black-and-white rules. As a trader with unclear rules, you will lack consistency in your trading performance because you will have to consciously think for each setup, opening the doors for indecision and emotions. The goal is to trade your strategy as an algo would, even if you're not using an algo.
Once you have created a trading plan, I recommend reading it over until it's part of your subconscious mind. Then create a flow chart to summarize your trading plan and keep this on the front page of your trading plan. The flow chart lets you quickly see a course of action you need to take with each trade like an algo reacts and executes a trade.
A trader who uses emotion to trade or does not have a black-or-white trading plan would have to reference their plan before, or worse, during, every trade. Meanwhile, an algo would operate with a flow chart and very quickly know what each step of every trade must be.
Journal your trades
As a trader, you will need to track the results of your trading strategy and monitor your discipline. While we all know if we made money or lost money by looking at our profit/loss statements from our brokers, we won't know if we followed our rules because the profit/loss statement does not document that information.
Record your results and any reasons why you took the trade. Did you stay in the trade until your target? Did you follow your risk management rules? Were you trading days you were not feeling well or distracted? Knowing this information lets you know if your strategy failed or if you need to be more disciplined to follow your rules.
Novice instincts could be emotional decisions
Don't follow your instincts as a novice trader. Until you have trading experience, these are usually going to be emotionally driven decisions based on fear or greed, not the price action you see on the chart. Create one trading strategy and define the rules so a computer can read them and execute each setup as they occur.
Once in a trade, there should be no questions in your head about your next step. If there is ever a question about how to manage the trade after you are in it, you should exit the market because it has now become an emotional trade. All strategy questions should be addressed while writing your trading plan, and then you follow the plan. No questions asked!
You don't need to program your trading style into an algo, but you do need to think and be prepared to react like an algo if you expect to trade like a professional trader.
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On the date of publication, Don Dawson did not have (either directly or indirectly) positions in any of the securities mentioned in this article. All information and data in this article is solely for informational purposes.