Thursday, July 31, 2008

Simplest Profitable Trading Plan

The more you can simplify a trading plan the more it will become profitable in the long run. Why? It is because trading decisions needs to be fast, consistent and accurate. The only way you can meet these objectives is to simplify a trading plan.

Let me give you an example, you are day trading a 3 minute or 1 minute chart where things can go fast. Your trading plan must adopt that speed for you to make sound trading decisions or else you miss the boat. Or you are a long term trader,you should not spend a day thinking about a simple trading move.

There are variety of trading tools available to any trader. But do not get mislead with tools, trading with tools is amateur but trading with tools plus money management is professional.

My most favorite technical tools is 200 -simple moving average.Simple Moving average is a classic tool which makes millions to someone but also cost millions to anyone careless using this type of techniques.

To anyone not familiar with 200-moving average, it is simply an average of 200 time periods before. It then can be used as a trend indicator.

It is a reality that no one can predict the movement of stocks, or any broker or trading firm claims they found the holy grail in trading. It does not exist. But it is a reality MOST OF THE TIME (I do not say all the time), that once the price breaks full above a 200 moving average, it is starting sign of a long running bull market. And if a price breaks full below a 200 moving average, it is a sign of long running bear market.

Can we trade using it now? NO. You will lose a lot money, yeah I mean a lot. Define your risk first (money management). This is personal and depends on every person, I prefer to trade long term. The benefits? Prevent over trading which cost a lot of commissions, and you will able to trade with focus. While you have more time to do with other things you like, such as me blogging this article.

My preferred profit to loss ratio is 2:1, to make my trading really simple while applying common sense, this means that I am ready to lose this x amount of dollars (losing in trading is normal but being afraid to lose is amateur) but I should win 2x dollars (No normal person is prepared to lose for example $500 dollars but while taking profit targets of only $100, except he is either a type of highly charitable person or a reckless gambler ) So,how can we implement this one using 200 moving average?

Lets illustrate actual case scenario, for example I am trading E-mini futures S&P 500. 1 point worth $50. My overall trading capital is $10,000 and I am prepared to lose 2% for every trading action that I made. So this means my dollars anticipated loss is $200 which is equivalent to a 4 point fluctuation. Since I am prepared to loss that amount, I should grab profits 2x, it will be $200 x 2= $400 dollars or a 8 point move.

Patience is the name of the game, I should wait for price to break below 200 moving average, so using a trend chart such as a one year chart (easy to set up in Yahoo finance), I can wait for prices to break below or above a 200 moving average and I will trade.

For example a full price breaks above 200 moving average on a 3 minute chart. For example if the 200 moving average is 1276, and the stock index close at 1280 with low at 1277, I will enter my trade long:

Stop Loss= 1280-4=1276
Profit target= 1280+8=1288

If my trade reach 1276, I exit trade and lose $200, but when it reaches 1288, I close the trade and grab a $400 dollars profits.

Take note, above is typical trading chart using 200 MA. Observed that once the price is below the moving average, it is not always an indication of trend reversal as you can see, it did not continue to go down. So you lose dollars in that trade.

It is why a 200 MA average is the simplest profitable trading plan but remember to be profitable means there are also loses along the way, keep money management as a priority.