Everyone that aspires to trade in the markets should select a consistent trading system. Below are the principles for examining a trading system. How many of these principles do you adopt with your current approach?
* To corroborate a trading system you need a minimum of 50 trades in the test. You should also have at least 75 ticks (overall market trades) in a bar to have a sound charting approach.
* Calculate your average profit per trade, the average loss, and the percentage of your all wins and losses.
* The biggest winning trade should not surpass 50% of the net profit. Otherwise the random lucky trade factor will throw off your system results.
* What is the Expectancy Ratio of your method? If it does not surpass 2 to 1 with a 50% but makes money, can you psychologically trade it and except all the losses necessary to stick with the system?
* As Van K. Tharp, Mark Douglas, Bill Williams, and Bent Steenbarger the Market Wizards all say, you trade your beliefs about the market. What does your trading system expose about your trading mentality? Does your system lead to doubt or confidence?
* Compare your trading system to other types of investments. Which system has the best Internal Rate of Return with the least risk? At minimum you need at least four times the return of a low risk investment (T-Bills) to make your system worth trading.
What is the best approach to build a solid trading system? Just like you build anything else. You first start with a goal, and apply the principles to reach the end result. Then you create a plan to achieve that goal, which includes all the risks, rewards, terms and conditions necessary to reach your goal.
The missing element is often the next step: execute the plan, closely observe your results, and make necessary modifications or changes to the system. The last step is to observe your emotions to see if you can accurately trade these signals, and play the probabilities for gains versus losses as you have laid out your system.
Mental control is the biggest challenge of any trading system. Have a plan, and trade your plan. This is the best path to achieve your goals.
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