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How to Write a Trading Plan for Binary Options
If you serious about a business, you need to have a business plan. If you are serious about trading, you need a trading plan. Before you invest any of your hard-earned money, you need to create a trading plan which you will follow each time you trade.
A trading plan is one of the most important tools in trading.
Every Forex trader must have a trading plan, this is also the case with binary options trading, and any other type of trading. In this article we will look at how to write a trading plan for binary options.
Consistently successful Forex traders say that
As a trader, you are faced with two options: follow your trading plan to the dot, or fail miserably.
Here are the main reasons why using a trading plan is crucial. A good plan will help us to:
- define short term goals and overall direction,
- focus only on clearly defined set of rules,
- control our emotions so we don’t over-trade,
- enforce trading discipline,
- increase our confidence as a trader.
In a nutshell, your trading plan should be your complete guide on how you are going to make money in binary options. If you think a plan is not required and that you can memorize and remember all the rules as you swing it, all the best to you. There are many geniuses among us, perhaps you’re one of them. For the rest of us, following a trading plan will do wonders. So here are the basics that need to be included in your plan.
Trading system is the key ingredient of your plan
In order to have a reliable trading plan it needs to include a winning trading system. The system should be tested for at least a month and produce profits before it is included in your trading plan. Your trading system can be first tested on a demo account and once successful it should also be tested on a live account.
Information about your trading system must include the following:
- time frames that you will trade, for example, H1, H4, D1
- the maximum amount or percentage you will risk per trade, e.g. 3% of capital
- the signals or/and entry rules that you will follow meticulously
- expiry times and take profit options
I will only trade the London/US overlap sessions between 10-12 am (New York). I only view H1 charts and all my trades expire in 2 to 3 hours. I only trade in the direction of the trend. I wait for a confirmed signal on my MT4 trading platform and then enter a trade. I only trade 2% of my entire trading capital on each trade.
If you don’t have a trading system that you can use, you might consider subscribing to trading systems developed by professional traders. Here are few examples.
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Outline your daily trading routine
Your daily trading routine should be included in your trading plan because it will help you understand your trading patterns but also optimize your day.
The last thing you want as a trader is to constantly think about trading and having missed good opportunities. This can literally drive you and your loved ones crazy. Checking your trading charts and results every 10-30 minutes can quickly turn into a very ugly habit and it usually doesn’t help much.
Your daily routine should include indication of:
- times of day when you will analyse the markets
- times of day when you will place your trades
- times of day you will make notes in your trading journal
- times of day when you intend to check the markets for results
I will look at the charts and analyze the market each morning between 10-12am. I will only do this for a maximum of 2 hours. Within that time if a trading opportunity presents itself I will place a trade. I will check the charts and the trading results when I finish work at 8:30pm. I will only do this for maximum 30 minutes.
Remind yourself to stay cool and in control
As cliche as it sounds your trading plan should also include some points that will activate your ‘trading mind’ which should always be calm and relaxed. Trading with emotions can drain your account very quickly so it is very important to remind yourself not to cloud your judgment with emotions and desires.
In this section you could include a checklist which will put you in the right trading mode:
- I will only trade on a confirmed signal and not make guesses
- whatever happens I will keep my emotions in check
- I will not chase trades or try to make up for a lost trade
- after each lost trade I will walk away for 10 minutes and drink some water
- I will turn each trade into a learning experience and learn from my mistakes
- I will never trade when I’m angry, upset, or feeling low
You can also add pictures, music, or videos to your plan for additional inspiration. Some traders like to play inspirational videos and music before each daily trade session. Motivational speeches and meditation help to focus and get into the right set of mind before trading begins.
Apply strict money management rules
Money management is one of the most important aspect of trading. Strict money management rules need to be part of your trading plan as well as your overall trading strategy. In binary options money management is easier than in Forex trading. However, this is not to say that there is nothing to manage. Your money is your money. You need to be in control of your losses and winnings and monitor your account balance each time you trade. A word of advise is that you should not spend more than 5% of your trading capital on each trade.
List your short-term and long-term goals
Take some time and think about what you want to accomplish as a trader. This is also quite an important step.
Your goals should include short-term as well as long-term goals and they should not only be about money. You can make them quite personal. Try to answer the following questions:
- Do you want to make a living from trading the markets?
- How much return can you realistically expect each month?
- How much time do you want to work each week?
- How will you become more confident in trading?
Log every trade you make in Trading Journal
A trading journal is crucial if you want to become a better trader. It can be separate from your overall trading plan but it should be viewed as an integral part of it. Based on your journal entries you will be able to measure the results of your trading plan and make the necessary adjustments.
The best way to log your trades is to take a screenshot of your trading chart after you make a trade. Write down the details of the trade (asset, chart, direction, expiry, result) and describe the conditions which led you to take this particular trade.
After each month of trading with your trading plan and trading journal you should study it all in detail and try to identify your weaknesses and strengths. Focus on improving your trading habits and adjust your plan as necessary.
Trading Concepts: Creating a Trading Plan
Start a business, you need a plan. With no direction or planning for how you’ll make a profit, your business likely doomed. Trading is no different, if you want to succeed, you’ll need to think of trading like you would a business. After all, through your research, skills and ultimately your money you’re making an investment in yourself, which hopefully will produce consistent profits and the lifestyle you desire. This doesn’t happen by accident (at least not often). It happens by creating a plan for your trading, and outlining exactly how you will trade. Creating a solid plan is a key step that all beginning traders should take, as failing to do this will likely result in simply failing.
Creating a plan leaves your emotions out of trading. When you watching your trade turn into a big loss or a big gain your mind can spin, causing you to deviate from the original strategy you had in mind, if you had one. The trading plan takes care of this. It gives you methodical instruction on exactly how to handle each trading situation should arise. It also tells you how to handle multiple trades. As a trader you may want to make more than one trade, but because you are anxious about your other trade you decide to skip out on a good opportunity. Alternatively, you may take on too many trades, exposing yourself to too much risk. A solid trading plan not only tells you how and why you are making trades, but also how you will handle a number of trades (if you so choose).
Probably the main benefit is that when you follow a plan you see what works and what doesn’t, and can monitor your results. Random trades, where you just buy and sell for any reason that strikes you, provide no useable feedback, because yours wins and losses will be as random as the impulses that generated the trade. Only by following a plan can you see if the strategies you are using actually work, or not, so you can make calibrated adjustments to improve.
Before You Begin
In order to create an effective trading plan, you need to consider several things thing before you begin:
- What style of trading best suits my personality? If you are someone who is low-key and prefers little drama, then you will likely want a trading style that is more in line with swing trading or investing. If you like action, then align your trading style with a more active style of trading such as short-term/day trading.
- Are you going to trade binary options, stocks, forex, futures, or a combination? Each has advantages and disadvantages; pick your markets(s) so you can create a plan for that market(s).
- What are your objectives? Why are you trading? Simple saying you want to make more money isn’t clear enough. Define what you want to make, and why–buy a car, buy a house, pay for kids school, etc. Your trading plan is the plan to get there, based on your resources, trading style and how often you trade. How often you trade will likely be determined by the entry and exit rules for your trades.
There are many excellent trading strategies out there, or you can create your own. Some basic entry methods are covered in my recent article Capitalizing on Lower Highs and Higher Lows in Price. Once you find a strategy you like, use this section of your plan to outline exactly how you will enter trades based on the strategy.
Your entry rules outline what market criteria must be in place for you take a trade. Here are some questions to ask yourself to get started. Does an indicator need to reach a certain level to take a trade? Does the price need to break an important level? Do entry signals need to occur on a specific chart, such as a 5 minute, 15 minute, or hourly chart. Do all trade signals get traded, or will you use a filter to screen some trades out? Do you enter exactly when a criteria is hit, or do you wait for a price bar to close before entering?
Think about your strategy, and then formulate exactly how you will enter those trades. If you use multiple strategies, this process must be done for each individual strategy.
How to get out of a trade is arguably more important than how you get in, since your exit is where you make or lose money. Therefore, your exit rules must stipulate exactly how you get out of both winning and losing trades based on your strategy.
If you are trading binary options, your profits and losses are fixed and therefore this section may be quite brief, since your broker essentially exits your trades for you. If you trade other assets, this section can get quite extensive.
You’ll need to determine where you will place a stop-loss order–an order which will close your trade and limit the amount you can lose. Where the stop-loss is placed must be determined before any trades are made, because without it, you don’t know how much you are risking on the trade. Once the trade is in motion, you may choose to implement a trailing stop. A trailing stop moves with your trade, reducing your risk or potentially locking in a certain profit once the trade moves in a profitable direction.
You’ll also need to outline if any profit targets will be used. Profit targets are pre-established price level or percentage-return levels at which you close your position (or part of it) to realize a profit.
You may choose another exit method, such as exiting simply when the criteria that got you into the trade disappears. If you entered because a trend was in place; when the trend breaks that could be your exit.
Outline your method for exiting profitable and losing trades, in fine detail, for any scenarios that may arise.
Money or risk management is the most important aspect of the plan. A basic rule for money management is that you shouldn’t risk more than 1% of your trading capital on a single trade. This is why you must determine your stop-level in the Exit Rules section. Once you set a stop-level, you know what your risk is.
Once you know your risk, you can determine how many contracts or lots you can buy. Managing your position size is crucial, as buying too much can create additional risk, while buying too little may make it difficult to reach your objectives.
In this section also consider whether you can take on multiple trades, or only one at a time. If you take on multiple trades, can they be correlated? If two assets are highly correlated, and you buy both of them, you are essentially taking the same trade, and doubling your position size. Consider these factors, and outline exactly how you will manage your money, risk and positions in order to reach your objectives.
Creating a trading plan will take time, but is well worth the effort. It should be very detailed, and at absolute minimum contain the sections discussed above. As you trade, things you didn’t consider will occur, and you’ll need to go back and tweak your plan. Once your plan is profitable though, avoid tinkering with it. The point of the plan is make your trading systematic, so you see what works and what doesn’t. If you constantly change the plan it won’t have time to show you if it is really working or not. Take the time to make a plan, because lack of planning leads to trading failure.
10 Steps to Building a Winning Trading Plan
There is an old expression in business that, if you fail to plan, you plan to fail. It may sound glib, but people that are serious about being successful, including traders, should follow those words as if they are written in stone. Ask any trader who makes money on a consistent basis and they will probably tell you that you have two choices: 1) methodically follow a written plan or 2) fail.
If you already have a written trading or investment plan, congratulations, you are in the minority. It takes time, effort, and research to develop an approach or methodology that works in financial markets. While there are never any guarantees of success, you have eliminated one major roadblock by creating a detailed trading plan.
- Having a plan is essential for achieving trading success.
- A trading plan should be written in stone, but is subject to reevaluation and can be adjusted along with changing market conditions.
- A solid trading plan considers the trader’s personal style and goals.
- Knowing when to exit a trade is just as important as knowing when to enter the position.
- Stop-loss prices and profit targets should be added to the trading plan to identify specific exit points for each trade.
If your plan uses flawed techniques or lacks preparation, your success won’t come immediately, but at least you are in a position to chart and modify your course. By documenting the process, you learn what works and how to avoid the costly mistakes that newbie traders sometimes face. Whether or not you have a plan now, here are some ideas to help with the process.
Disaster Avoidance 101
Trading is a business, so you have to treat it as such if you want to succeed. Reading a few books, buying a charting program, opening a brokerage account, and starting to trade with real money is not a business plan—it is more like a recipe for disaster.
A plan should be written—with clear signals that are not subject to change—while you are trading, but subject to reevaluation when the markets are closed. The plan can change with market conditions and might see adjustments as the trader’s skill level improves. Each trader should write their own plan, taking into account personal trading styles and goals. Using someone else’s plan does not reflect your trading characteristics.
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Building the Perfect Master Plan
No two trading plans are the same because no two traders are exactly alike. Each approach will reflect important factors like trading style as well as risk tolerance. What are the other essential components of a solid trading plan? Here are 10 that every plan should include:
1. Skill Assessment
Are you ready to trade? Have you tested your system by paper trading it, and do you have confidence that it will work in a live trading environment? Can you follow your signals without hesitation? Trading the markets is a battle of give and take. The real pros are prepared and take profits from the rest of the crowd who, lacking a plan, generally give money away after costly mistakes.
2. Mental Preparation
How do you feel? Did you get enough sleep? Do you feel up to the challenge ahead? If you are not emotionally and psychologically ready to do battle in the market, take the day off—otherwise, you risk losing your shirt. This is almost guaranteed to happen if you are angry, preoccupied, or otherwise distracted from the task at hand.
Many traders have a market mantra they repeat before the day begins to get them ready. Create one that puts you in the trading zone. Additionally, your trading area should be free of distractions. Remember, this is a business and distractions can be costly.
3. Set Risk Level
How much of your portfolio should you risk on one trade? This will depend on your trading style and tolerance for risk. The amount of risk can vary, but should probably range from around 1% to 5% of your portfolio on a given trading day. That means if you lose that amount at any point in the day, you get out of the market and stay out. It’s better to take a break, and then fight another day, if things aren’t going your way.
4. Set Goals
Before you enter a trade, set realistic profit targets and risk/reward ratios. What is the minimum risk/reward you will accept? Many traders will not take a trade unless the potential profit is at least three times greater than the risk. For example, if your stop loss is $1 per share, your goal should be a $3 per share in profit. Set weekly, monthly, and annual profit goals in dollars or as a percentage of your portfolio, and reassess them regularly.
5. Do Your Homework
Before the market opens, do you check what is going on around the world? Are overseas markets up or down? Are S&P 500 index futures up or down in pre-market? Index futures are a good way of gauging the mood before the market opens because futures contracts trade day and night.
What are the economic or earnings data that are due out and when? Post a list on the wall in front of you and decide whether you want to trade ahead of an important report. For most traders, it is better to wait until the report is released rather than taking unnecessary risks associated with trading during the volatile reactions to reports. Pros trade based on probabilities. They don’t gamble. Trading ahead of an important report is often a gamble because it is impossible to know how markets will react.
6. Trade Preparation
Whatever trading system and program you use, label major and minor support and resistance levels on the charts, set alerts for entry and exit signals and make sure all signals can be easily seen or detected with a clear visual or auditory signal.
7. Set Exit Rules
Most traders make the mistake of concentrating most of their efforts on looking for buy signals, but pay very little attention to when and where to exit. Many traders cannot sell if they are down because they don’t want to take a loss. Get over it, learn to accept losses, or you will not make it as a trader. If your stop gets hit, it means you were wrong. Don’t take it personally. Professional traders lose more trades than they win, but by managing money and limiting losses, they still make profits.
Before you enter a trade, you should know your exits. There are at least two possible exits for every trade. First, what is your stop loss if the trade goes against you? It must be written down. Mental stops don’t count. Second, each trade should have a profit target. Once you get there, sell a portion of your position and you can move your stop loss on the rest of your position to the breakeven point if you wish.
8. Set Entry Rules
This comes after the tips for exit rules for a reason: Exits are far more important than entries. A typical entry rule could be worded like this: “If signal A fires and there is a minimum target at least three times as great as my stop loss and we are at support, then buy X contracts or shares here.”
Your system should be complicated enough to be effective, but simple enough to facilitate snap decisions. If you have 20 conditions that must be met and many are subjective, you will find it difficult (if not impossible) to actually make trades. In fact, computers often make better traders than people, which may explain why nearly 50% of all trades that now occur on the New York Stock Exchange are generated by computer programs.
Computers don’t have to think or feel good to make a trade. If conditions are met, they enter. When the trade goes the wrong way or hits a profit target, they exit. They don’t get angry at the market or feel invincible after making a few good trades. Each decision is based on probabilities, not emotion.
9. Keep Excellent Records
Many experienced and successful traders are also excellent at keeping records. If they win a trade, they want to know exactly why and how. More importantly, they want to know the same when they lose, so they don’t repeat unnecessary mistakes. Write down details such as targets, the entry and exit of each trade, the time, support and resistance levels, daily opening range, market open and close for the day, and record comments about why you made the trade as well as the lessons learned.
You should also save your trading records so that you can go back and analyze the profit or loss for a particular system, drawdowns (which are amounts lost per trade using a trading system), average time per trade (which is necessary to calculate trade efficiency), and other important factors. Also, compare these factors to a buy-and-hold strategy. Remember, this is a business and you are the accountant. You want your business to be as successful and profitable as possible.
The percentage of day traders that quit within two years, according to a 2020 paper titled “Do Day Traders Rationally Learn About Their Abilities” by Barber, Lee, Liu, and Odean.
10. Analyze Performance
After each trading day, adding up the profit or loss is secondary to knowing the why and how. Write down your conclusions in your trading journal so you can reference them later. Remember, there will always be losing trades. What you want is a trading plan that wins over the longer term.
The Bottom Line
Successful practice trading does not guarantee that you will find success when you begin trading real money. That’s when emotions come into play. But successful practice trading does give the trader confidence in the system they are using, if the system is generating positive results in a practice environment. Deciding on a system is less important than gaining enough skill to make trades without second-guessing or doubting the decision. Confidence is key.
There is no way to guarantee a trade will make money. The trader’s chances are based on their skill and system of winning and losing. There is no such thing as winning without losing. Professional traders know before they enter a trade that the odds are in their favor or they wouldn’t be there. By letting their profits ride and cutting losses short, a trader may lose some battles, but they will win the war. Most traders and investors do the opposite, which is why they don’t consistently make money.
Traders who win consistently treat trading as a business. While there is no guarantee that you will make money, having a plan is crucial if you want to be consistently successful and survive in the trading game.
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