| In our article "Define your Goals and Make a Plan" | | | | Principle #5: Find a system that produces at least five |
| you learned: | | | | trades per week |
| - How to define your financial and trading goals. | | | | The higher the trading frequency, the smaller is the |
| - How to select the right market for your trading | | | | chances of having a losing month. If you have a |
| goals. | | | | trading system that has a winning percentage of |
| - What timeframe you should trade in. | | | | 70%, but only produces 1 trade per month, then 1 |
| - The difference between trading styles and how to | | | | loser is enough to have a losing month. In this |
| find the right one for you. | | | | example, you could have several losing months in a |
| - How to create a basic daytrading plan. | | | | row before you finally start making profits. In the |
| Now that you defined your goals and created your | | | | meantime, how do you pay for your bills? |
| daytrading plan, you need to make sure it really | | | | If your trading system produces five trades per |
| works. Thus far everything might look great, but | | | | week, then you have on average 20 trades per |
| how can you be sure that the day trading system | | | | month. Having a winning percentage of 70% - your |
| works when you start trading it with real money? | | | | chances of a winning month are extremely high. |
| Evaluating a trading system is easier than you think. | | | | And that's the goal of all traders: Having as many |
| Below you'll find 10 Principles of Successful Day | | | | winning months as possible! |
| Trading Systems that we developed and refined | | | | Principle #6: Start small - grow big |
| over the last couple of years. You should use these | | | | Your daytrading system should allow you to start |
| Power Principles to evaluate your trading system, | | | | small and grow big. A good trading system allows you |
| whether you developed it on your own or think | | | | to start with one or two contracts, and then |
| about purchasing one. By checking a system against | | | | increases your position as your trading account |
| these principles you can dramatically increase the | | | | grows. This is in contrast to many "martingale" trading |
| chances of being successful. | | | | systems that require increasing position sizes when |
| Here we go: | | | | you are in a losing streak. |
| Principle #1: Few rules - easy to understand | | | | You probably heard about this strategy: Double your |
| It may surprise you that the best daytrading | | | | contracts every time you lose, and one winner will |
| systems have less than 10 rules. The more rules you | | | | win back all the money you previously lost. It's not |
| have, the more likely you "curve-fitted" your trading | | | | unusual to have 4-5 losing trades in a row, and this |
| system to the past, and such an over-optimized | | | | would already require to trade 16 contracts after just |
| system is very unlikely to produce profits in real | | | | 4 losses! Trading the e-mini S&P you would then |
| markets. | | | | need an account size of at least $63,200, just to |
| It's important that your rules are easy to understand | | | | meet the margin requirement. That's why martingale |
| and execute. The markets can behave very wild and | | | | systems don't work. |
| move fast, and you won't have the time to calculate | | | | Principle #7: Automate your trading |
| complicated formulas in order to make a trading | | | | Emotions and human errors are the most common |
| decision. Think about successful floor traders: The | | | | mistakes that traders make. By all means you have |
| only tool they use is a calculator, and they make | | | | to avoid these mistakes. Especially during fast |
| thousands of dollars every day. | | | | markets, it is crucial that you determine the entry |
| Principle #2: Trade electronic and liquid markets | | | | and exit points fast and accurately; otherwise, you |
| I strongly recommend that you trade electronic | | | | might miss a trade or find yourself in a losing position. |
| markets because commissions are lower and you | | | | Therefore you should automate your trading and |
| receive instant fills. You need to know as fast as | | | | look for a trading system that either already is or can |
| possible if your order was filled and at what price, | | | | be automated. Automating your trading makes it free |
| because based on this information you plan your exit. | | | | of human emotion. The buy and sell operations are all |
| You should never place an exit order before you | | | | automatic, hands-free, with no manual interventions |
| know that your entry order is filled. When you trade | | | | and you can be sure that you make profits when |
| open outcry markets (non-electronic) you might have | | | | you should according to your plan. |
| to wait a while before you receive your fill. By that | | | | Principle #8: Have a high percentage of winning |
| time, the market might have already turned and your | | | | trades |
| profitable trade has turned into a loss! | | | | Your daytrading strategy should produce more than |
| When trading electronic markets you receive your fills | | | | 50% winners. There's no doubt that daytrading |
| in less than one second and can immediately place | | | | systems with smaller winning percentages can be |
| your exit orders. Trading liquid markets you can avoid | | | | profitable, too, but the psychological pressure is |
| slippage, which will save you hundreds or even | | | | enormous. Taking 7 losers out of 10 trades and not |
| thousands of dollars. | | | | doubting the system takes great discipline, and many |
| Principle #3: Realistic expectations | | | | traders can't stand the pressure. After the sixth loser |
| Losses are part of our business. A trading system | | | | they start "improving" the system or stop trading it |
| that doesn't have losses is "too good to be true". | | | | completely. |
| Recently I ran into a trading system with a whopping | | | | Especially for beginners it is a big help to gain |
| winning percentage of 91% and a drawdown of less | | | | confidence in your trading and your system if you |
| than $500. WOW! | | | | have a high winning percentage of more than 65%. |
| When looking at the details it turned out that the | | | | Principle #9: Look for a trading system that is tested |
| daytrading system was only tested on 87 trades and | | | | on at least 200 trades |
| - of course - curve fitted. If you run across trading | | | | The more trades you use in your back testing |
| systems with numbers too good to be true, then it's | | | | (without curve-fitting), the higher the probabilities that |
| probably exactly THAT: Too good to be true. | | | | your day trading system will succeed in the future. |
| Usually you can expect the following from a robust | | | | Look at the following table: |
| trading system: | | | | Number of Trades 50 100 200 300 500 Margin of |
| - A winning percentage of 60-80% | | | | Error 14% 10% 7% 6% 4% |
| - A profit factor of 1.3 - 2.5 | | | | The more trades you have in your back testing, the |
| - A maximum drawdown of 10-20% of the yearly | | | | smaller the margin of error, and the higher the |
| profit. | | | | probability of producing profits in the future. |
| Use these numbers as a rough guideline, and you will | | | | Principle #10: Chose a valid back testing period |
| easily identify curve fitted systems. | | | | I recently saw the following ad: "Since 1994 I've |
| Principle #4: Maintain a healthy balance between risk | | | | taught thousands of traders worldwide a Simple and |
| and reward | | | | Reliable E-Mini trading methodology". |
| Let me give you an example: If you go to a casino | | | | That's very interesting, because the e-mini S&P |
| and bet everything you have on "red", then you | | | | was introduced in September 1997, and the e-mini |
| have a 49% chance of doubling your money and a | | | | NASDAQ in June 1999, therefore, none of these |
| 51% chance of losing everything. The same applies | | | | contracts existed before 1997. What kind of e-mini |
| to trading: You can make a lot of money if you are | | | | trading did this vendor teach from 1994-1997??? |
| risking a lot, but then risk of ruin is very high. You | | | | The same applies to your back testing: If you |
| need to find a healthy balance between risk and | | | | developed an e-mini S&P trading strategy, then |
| reward. | | | | you should back test it only for the past 3-4 years, |
| Let's say you define "ruin" as losing 20% of your | | | | because even though the contract has existed since |
| account, and you define "success" as making 20% | | | | 1997, there was practically nobody trading it (see |
| profits. Having a trading system with past | | | | chart below): |
| performance results let you calculate the "risk of ruin" | | | | |
| and "chance of success". | | | | As you can see, it's rather easy to find a trading |
| Your risk of ruin should be always less than 5%, and | | | | system that works. By applying this checklist you will |
| your chance of success should be 5-10 times higher, | | | | easily identify trading systems that work and those |
| e.g. if your risk of ruin is 4%, then your chance of | | | | that will never make it. |
| success should be 40% or higher. | | | | |