Trading the markets involves buying and selling to make a profit. This pursuit involves two distinct elements – analysis and trading.
We have a large array of tools and indicators to help determine market direction and the strength of trends. But this is not trading, it is analysis, and understanding the difference is vital.
My own experience and encounters with students over the years have taught me that one of the biggest difficulties (aside from the ‘human element’) is the failure to separate these elements and apply each at the appropriate time. Analysis comes before trading. It is the ‘set up’ procedure. In the context of a 100-metre sprint, it is the ‘on your marks…get set…’ part.
When you get to ‘Go!’ you move into a totally different phase - applying your Trading Plan.
WD Gann had the following to say about trading plans in Truth of the Stock Tape (p. 27):
“Have a well-defined plan before you start trading, then follow that plan, as the architect does in building a house, or the engineer in constructing a bridge or driving a tunnel.
The man who changes his ideas or his plans, which are based on something practical, for no other reason than that he hopes or fears the market will do something different, will never make a success.”
David Bowden listed a number of trading plan characteristics in the Smarter Starter Pack (p.229), including:
- You must have a plan.
- That plan must be committed to paper.
7. It must be precise.
8. You must have faith in it.
10. You must put it to work.
These two great traders agree that trading plans must be well-defined and precise. Imagine an engineer building a bridge. What would happen if he used his ‘intuition’ to change the plan half-way through? Would the bridge be stronger or weaker?
Think carefully about this. I am not saying trading plans must never be changed. If circumstances arise which change the foundations on which the plan was based, you have to adapt. I saw a documentary recently about the construction of a large suspension bridge in an earthquake-prone region of Corinth, Greece some years ago. A number of changes were made during the construction phase because of weather events.
The point is that alterations must be based on facts, not on hopes or fears that the market will do something different.
I recently received an email from a trader offering some views on a current market. Consider these statements:
- What I am trying to say here is that this could be a turn
- What worries me is that…
- My gut feeling is to do nothing until…
Can you see the problem with this trader’s mind-set?
Once you have performed your analysis, it’s all about your trading plan. Step 7 of the Seven Steps of ABC Trading that you learn at Trading Tactics is ‘Sit Back and Relax’. It doesn’t mean you won’t experience emotion or stress as the market moves around but you must let go of the outcome of the trade and stop trying to be right. The trader quoted above is still worried about trying to be right, (even though the email informed me that big profits had already been made on the recent move).
David said you must have faith in your plan. This faith can only come from testing it (both back-testing and real-time-testing) and watching the market unfold according to your rules to see what would have happened. Don’t commit real money until you have proven that the system works.
I have spent a lot of time recently studying this aspect of trading. I did a presentation on the application of a Trading Plan at the FX and Commodities Summit in July and am expanding that to a full-day webinar on 19 November, where we will fully examine the difference between analysis and trading and when each should be applied. We will be studying the ‘best-practice’ development of a Trading Plan and how to apply it to the analysis of the market in question. I hope you will join me.
Knowledge is Power!