Planning Your Trades

Last updated 8/27/2009 7:27 PM EST (GMT -5) 13 Comments

Forex Trading involves high risks, with the potential for substantial losses and is not suitable for all persons. Past performance is not necessarily indicative of future results.

Bradley W. Gareiss

Technical Analyst, GFT

When most people start trading, they do not put much thought into their trades.  They will either buy or sell a currency pair (probably the EUR/USD) because they think they see a trend or maybe even because they put a moving average on the chart.  Sometimes there is no reason at all for the trade, they just want in.  Either that trade nets a small profit or the trades starts going against the new trader.  The trader that gets the small profit will feel invincible and likely base trades in the near future on the same reason as the first one.  Of course they expect every trade to win.  The trader whose position moves against them leaves their position open, stares at the their computer without blinking, and laments that they will get out if the market only goes back to break even.

Sooner or later, the trader who won their first trade puts on a loser and acts much like the trader above who lost their first trade.  After a large loss to the account, the trader then puts on a large position trying to win it back.  Inevitably that trade crushes their account, or a trade soon after will.  Sound familiar?

The reason that new traders blow out their account is that they assume trading is easy, they don't realize the role their emotions play in trading with real money, and they have no trading plan.  Well, it doesn't take long to learn on your own that trading isn't easy, so we won't spend too much time discussing that.  However, using a consistent trading plan is the only way to reign in your emotions and develop consistency in your trading.  If you enter at random places and exit when your "gut" tells you to, you are in for a lot of pain.

Every remotely successful trader I have ever spoken with has a trading plan.  These traders do the same thing every time, occassionally tweaking one aspect of their plan at a time.  Trying to change everything at once makes it impossible to tell what is working and what is not.  We will go through the important aspects of a trading plan below, and we will go over how the FX360.com technical analysis works with these principles.

First off, I believe it is imperative to identify your entry, stop, and profit target(s) before entering every trade.  If you try to determine your exits once you enter the trade, your emotions will skew your view of the facts unless you are a robot.  If the exits are planned before entering, it is tough for your emotions to screw you up.  By placing your exits in the system when you enter the trade, it is much easier to stay disciplined to your plan.  Another advantage is that you don't have to stare at your computer 24 hours a day waiting for a place to exit.

I also feel it is important to know your risk:reward ratio before entering a trade.  How on earth can you determine your risk reward:ratio if you don't plan your stop and profit target(s) before entering the trade?  It can't be done.  To measure this ratio, simply divide the distance between the entry and the profit target by the distance between the entry and the stop.  Everyone's concept of a "good" risk:reward ratio varies, but I prefer to have a risk:reward ratio around 1:1.5. 

Once you have planned your entry and stop, you can also determine your position size.  Your position size should generally be the same percentage of your equity each trade.  Most traders risk 1-3% on each trade, using the same percentage for every trade.  In other words, all trades are weighted equally.  The same amount of capital should be risked on a trade with a 300 pip stop as a 30 pip stop.  In order to determine your position size, simply multiply your total equity by your percentage risk per trade (typically 1-3%), which is the amount of money you should risk per trade (X).  Next, multiply the number of pips between your entry and stop by the currency's pip value (Y).  You can also draw a line from your entry to stop using the value calculator to get Y.  Then divide X by Number Y to get the number of lots you should trade.  Once you practice this, it is easy.

The methodology we use (geometric pattern recognition) makes it very easy to follow this plan.  Everything is already planned out, all you need to add is your total equity and percentage you want to risk for each trade (typically 1-3%).  By planning your trades out before you enter you can now trade on any time frame because you are risking the same amount for each trade.  This will lead to much more consistent results that using static numbers when determining position size. 

Comments (13)

cslos77

August 27, 2009 at 09:42 PM ET

Hi Brad, great summary of your approach. I just wanted to add (or emphasize) 2 things I've learned from following you and Roger for the last 9 months::

1. Doing well with practice accounts DOES NOT mean you know what you're doing, or that you have a good system. It's like playing poker with worthless chips, it's easy to win; but make the chips worth even 10 cents and it becomes a completely different game. You should definitely use a practice account to become familiar with the motions of trading and the technology involved, etc.; and as an outlet for hunches or new ideas, but don't start trading full lots just because you made 1000 pips last week on your practice acct. The market is the best Poker player in the world, but he (she?) only shows up when real money is on the line.

2. DON'T take profits early no matter how tempting it is, follow Brad's advice and set all your levels before entering and then forget them. If you take profit early you are just destroying your Profit/Loss ratio and cheating yourself out of earnings in the long run, unless you are prepared to cut your losses early as well, but then you're just back to guessing without a system. Someone in another comment mentioned about treating every trade that you've entered as loss already and moving on. You don't have to be that extreme, but the point is well made: spend more time on future trades than those you've already entered.

Jeremy

bgareiss

August 28, 2009 at 09:06 PM ET

I'm glad you are getting something out of the website. Thanks. Brad

dnagold

August 28, 2009 at 12:29 AM ET

How is it going Bradley i have a question i trade off Gartly and Butterfly pattern and i am trying to figure out how to perfectly place my stop loss i have noticed that not all patterns have great Risk reward ratios. i usually find 1/2 risk reward when the patterns are big they are 1/3 (But don't come around as often) i usually like to use 2% of my account and like to have like a 50 PIP stop to give the room to breath (Forex is volatile) but when i compare the risk to the reward, the reward comes short alot of times What can i do to adjust that ???



Thank you For your Time
Andres

bgareiss

August 28, 2009 at 09:08 PM ET

It is hard for me to give you advice without seeing some chart examples. Send me some screen shots at bgareiss@gftforex.com and I will see what I can do to help. Brad

dorian17

August 28, 2009 at 01:10 AM ET

Gentelmen, I would like to point out a couple of pairs as well as ask Bradleys opinion of them...
GBP vs. AUD and GBP vs. NZD. Pretty extreme are they not? Both are at their ALL time lows..To me that looks pretty tempting
would love to hear thoughts

bgareiss

August 28, 2009 at 09:10 PM ET

I am not sure if you are tempted to go long or short. I don't really have an opinion on any pair unless there is a geometric pattern present. Brad

Forexpreneur

August 28, 2009 at 05:11 AM ET

Excellent article as always Brad. Untill one learns how to trade with good trade setups, identifies profit targets, sets a resonable risk vs. reward (you like 1 to 1.5 minimum, I like 1 to 2), and to always set a stop loss for every trade then they will not find trading to be profitable over the long run. Essentially they are just gambling and not really knowing it. I can speak from exprience. :) Thank you for the article.

bgareiss

August 28, 2009 at 09:10 PM ET

You're welcome. Brad

iancol

August 28, 2009 at 07:28 AM ET

hi brad

i have read many comments from your followers over the past month and listened to your advice you have given them.
the main theme that stands out is the emotion people attach to each trade. it seems that many people are unable to cope once a trade goes on a loss and wish they had never entered the trade.

i am no expert, who is, but have traded ccys, bonds etc since the late 80s and during that time i do not know anyone who does not lose money on some trades. stops are used to restrict loses because there is no such thing as a price can not possible go any further. also traders should realise that they do not have to put every trade on. if a trade is recommended but they feel uneasy about putting it on because of their overrall views on the market, you do not have to put it on. some trades are counter ( mrkt stretched and possibly oversold/bought), some trades are trend. traders have a choice .

as you have probably gathered, i do not trade using just charts but they form a very important part of my trading platform when setting stops/profit targets. however, it is up to each trader to settle on a trading stratergy and to decide what will be the best trading stratergy for them. however, to make money consistantly, % risk per capital base needs to be consistant.

my own trading style is simple and split into 2 areas. i have 5 major ccy pairs that i trade with 3pct capital risk and probably spend 90 pct of my day concentrating on those pairs. i also keep an eye on all the other crosses, but only risk 1 pct of capital risk on those trades. i will not alter the % in each group and therefore i find i have a consistant return in each area, albeit one obviously outperforms the other.

my trading style suits me and i realise that it would not suit everybody. it does not follow just one charting system and when new traders are starting out they should not over complicate things. however they must follow the simple rules of
capital management, stops and profit targets, and they must try to not get to emotional about each trade.
i accept that my method of treating each trade as a loser ( comment posted re eur/gbp ) maybe a bit extreme , but it works for me because it keeps my head clear to concentrate on other trades.


i have bored everyone now with my words of wisdom ( not ), but to any new traders i would just say that if you listen to brad re capital management, stops and profit targets, you stand a better chance of success.

iancol

Marc

August 29, 2009 at 07:49 PM ET

Hi Brad, I always enjoyed reading your articles on risk management. And thank you all for your valuable advice.

bgareiss

August 31, 2009 at 06:05 PM ET

You are welcome. Brad

welshandy

September 02, 2009 at 12:13 AM ET

Hi Brad,

great article, sums up a lot of what Im going through as a new trader. its all good reading. I have a query regarding the
trade setups - can you confirm what the "currency pip value (Y)" relates to please? Perhaps with an example to show how this paragraph works in practise, that would be great:


> In order to determine your position size, simply multiply your total equity
> by your percentage risk per trade (typically 1-3%), which is the amount of
> money you should risk per trade (X).  Next, multiply the number of pips
> between your entry and stop by the currency's pip value (Y).  You can also
> draw a line from your entry to stop using the value calculator to get Y. 
> Then divide X by Number Y to get the number of lots you should trade. 


Many thanks in advance!

bgareiss

September 02, 2009 at 01:46 PM ET

Let's say you have $10,000 in your account and you want to risk 2% per trade. Therefore, you would risk $200 on the trade. Let's suppose you are trading the EUR/USD with mini-lots so the pip value is $1. We will assume your stop is 50 pips from the entry for easy math. Therefore, your stop is $50 per mini-lot from the entry. Since you want to risk $200, your position size would be 4 mini-lots for that trade ($200/$50=4). Brad

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