Below, we discuss several key elements you could include when creating your trading plan.
- Evaluate yourself
- Determine your trading style
- Determine your trading strategy
- Pay attention to market hours
- Forex pairs to trade
- Taking rollover rates into consideration
- Risk and money management
- Emotional aspect
- Trading journal
Evaluate yourself
Before you start creating your plan, you first might want to assess your overall market knowledge, trading goals, and possible weaknesses because, as previously mentioned, your plan needs to be unique to you.
If you are a beginner forex trader, you might want to avoid complex trading strategies as they could become overwhelming. However, there are many different strategies to choose from, some less complicated than others.
You can also choose which financial market you want to trade in because a stock trading plan might look somewhat different from a trading plan for forex or commodities.
However, seeing as this article is based on creating a forex trading plan, the choice you’ll have to make comes down to which currency pairs you might want to trade. In a later section, we’ll cover the different forex pairs in more detail.
Within the forex market itself, there are many aspects you might want to learn before you start trading, such as what a pip is or what bid and ask prices are. There are other factors to consider as well; however, we’ll discuss those later.
Next, you could look at what your trading goals are.
Now, these goals should be specific, time-bound, relevant, attainable, and measurable because you want to be realistic about what you wish to achieve through trading. For example, you could write down you want to increase your portfolio by 10% in 12 months. This is a specific, realistic goal with a dedicated timeline.
Lastly, as you develop your trading skills, you’ll learn more about your strengths and weaknesses. This will allow you to adjust your trading plan accordingly to further develop those strengths and alleviate the weaknesses.
Determine your trading style
Various factors determine your trading style; however, two essential aspects that come into play are the amount of time you have available to trade and the amount of capital you have.
There are four popular trading styles which you could choose from:
- Scalping: Traders who choose scalping as their trading style generally have a short-term outlook on the market, keeping a position/s open for a few seconds to minutes. It also requires traders to monitor the charts constantly throughout the day to look for potential trading opportunities.
- Day trading: This is also a short-term trading style; however, instead of keeping a position/s open for a few seconds to minutes, day traders generally keep their position/s open for a longer period, such as a few minutes to hours. They also monitor the charts constantly throughout the day to look for potential opportunities.
- Swing trading: Traders who take up swing trading have a longer-term outlook on the market. They tend to keep their position/s open for a couple of days to weeks while only looking at the charts once or twice daily to see how their open position/s are doing.
- Position trading: Traders who decide to take up position trading have the longest-term outlook on the market, apart from investing. They tend to keep their position/s open for a few weeks to months, and some might even keep them open for a year.
When deciding which trading style will fit you, you might also want to consider overnight fees, which is a fee you’ll have to pay the broker to keep the position open overnight. Scalping and day trading won’t necessarily be affected by this because traders using either of those styles try to close all their positions within the same day.
Determine your trading strategy
There are many different trading strategies you could choose. However, the strategy you choose will depend on your trading style, as most use a combination of both technical analysis and fundamental analysis. In contrast, others might only focus on fundamental or technical analysis.
Let’s first break down these two forms of analysis in more detail:
- Fundamental analysis: Traders use this form of analysis to identify a financial instrument’s intrinsic value by looking at micro and macroeconomic data in order to determine if the instrument is overvalued, undervalued, or fairly valued and make trading decisions based on all information gathered.
- Technical analysis: This form of analysis is mainly chart-focused. Traders use historical price data, statistics, indicators, chart patterns, and candlestick patterns to predict future price movements and identify possible trading opportunities with entry and exit points.
Different trading strategies could be combined or used independently, depending on your trading style and personal experience in the market. Starting with one or two strategies might be essential for novice traders to avoid becoming overwhelmed.
Let’s have a look at three popular trading strategies in more detail:
Support and resistance trading
Support and resistance levels show how supply and demand play out in the market.
Support levels are formed when the price retests previous lows, failing to break below those previous lows. In contrast, resistance levels are formed when the price retests the prior highs, failing to break above those highs.
Traders use support and resistance levels in trading by monitoring the price as it moves towards one of these levels. In essence, when the price moves towards a support level and retests that level, traders might look to open a long (buy) position, predicting it will reverse upwards due to historical price movement at that level.
Conversely, as the price moves towards a resistance level and retests that level, traders might look to open a short (sell) position, predicting the price will fall due to historical price movement at that level.
There is also the situation of a breakout above resistance or below support, another aspect of trading these levels.
As the price breaks out above resistance, traders might predict that the ranging market is over and that the price will move upwards, opening a long (buy) position above the breakout.
Conversely, traders might open a short (sell) position below the breakout at a support level, predicting the price will fall.
Moving averages trading
The moving average takes the closing price data of a financial instrument over a certain period of time and presents it as a single moving line. So, if we look at the 50-day moving average, it takes the closing price of the last 50 days, adds those prices up, and divides it by 50 to get an average price range.
The moving average is known as a lagging indicator, which means it’s used to confirm the trend but is not necessarily used to identify it.
A common strategy traders use with moving averages is what’s known as the crossover strategy. It involves two moving averages, such as the 50-day moving average and the 100-day moving average, crossing over and signalling a possible trend reversal.
When the 50-day moving average crosses below the 100-day moving average, it signals a possible trend reversal towards the downside, known as the death cross.
Conversely, when the 50-day moving average crosses above the 100-day moving average, it signals a possible trend reversal towards the upside, known as the golden cross.
News-based trading
The two strategies mentioned above mainly fall under technical analysis, while news-based trading falls under fundamental analysis.
Traders using this strategy will look at the latest and important news events—which could bring a certain level of volatility to the market—for opportunities to capitalise on these moments of volatility.
With this strategy, traders tend to have a broader economic outlook on the markets, as news and economic events could simultaneously affect the price movements of various financial instruments.
Pay attention to market hours
The forex market is open 24 hours a day, five days a week, following the time zones of four major financial capitals: Sydney, Tokyo, London, and New York. However, there might only be certain hours when forex pairs are the most liquid.
During a typical 24-hour cycle, the market will start with the Sydney session, move to the Tokyo session, then the London session, and end with the New York session.
Trading volume will generally increase at the start of the London session when big financial institutions start their trading day. There will also be another increase at the opening of the New York session, which will overlap with the London session.
Most of these four sessions will overlap, except for the New York and Sydney sessions. The Sydney session opens as soon as the New York session closes. However, they don’t overlap. During this time, trading volume tends to fall and spreads become wider.
Paying attention to the market hours you might want to trade goes hand-in-hand with your strategy (depending on the strategy you choose to use); for example, if your strategy works better during the hours of high liquidity and trading volume, you could look to trade during the hours when the New York session overlaps with the London session.
Forex pairs to trade
There are many different types of forex currency pairs. However, they all fall into one of three categories:
- Majors: These currency pairs include currencies from some of the world’s biggest economies: the Euro, Great British pound, US dollar, Japanese Yen, New Zealand dollar, Australian dollar, Canadian dollar, and Swiss franc. They are also some of the most traded pairs in the forex market. All major currency pairs include the US dollar as the base or the quote currency, for example, GBP/USD or USD/CHF. This is because the US dollar is seen as the world’s primary reserve currency.
- Minors: These currency pairs, also known as cross-currency pairs, still include the currencies from the majors. However, they don’t include the US dollar. For example, EUR/AUD or GBP/JPY.
- Exotics: These pairs consist of one major currency trading against a currency from any emerging economy. For example, USD/SEK (US dollar against the Swedish krona).
Most traders might end up trading only major currency pairs because they tend to have the highest liquidity. However, the choice of which currencies to trade will be up to you as you could always switch between different currency pairs as you progress in your trading.
Taking rollover rates into consideration
When you decide to hold a position open overnight, the rollover rates are the interest payable or earned for those open positions.
These rates could either be positive or negative depending on your open position (long [buy] or short [sell]) and the interest rates of the currencies you are trading during the specific market hours.
Both currencies are included in the rollover rates because currencies are traded in pairs in forex trading; in other words, you buy one currency while simultaneously selling another and vice versa when you sell one currency.
Let’s say, for example, you’re trading GBP/USD, and it has a rollover rate of 0.5/-1.15; this means that if you have a long (buy) position open of 1 mini lot (10,000 units), the broker will charge you a $1.15 rollover fee. And if you have a short position open of 1 mini lot, you will earn a credit of $0.50.
Each broker might have a different rollover rate, and most brokers charge an additional fee in addition to the rollover rate.
Risk and money management
Forex trading is mainly traded through derivative products such as spread betting and CFDs (Contract For Difference), which allows you to trade on margin through leverage. This ultimately will enable you to open a bigger position with only a small amount of investment capital called margin.
Trading on margin with leverage will also magnify profits and losses because the trade results are calculated based on the entire position amount, not just your initial deposit amount used to open the position.
It is for this reason that risk and money management are essential parts of a forex trading plan, as they involve taking certain precautions in order to protect yourself from losses when the market moves against you while at the same time protecting your trading capital.
Any form of trading involves a certain degree of risk, and forex trading is no exception. To start your risk and money management strategy, you might first want to determine the level of risk you’re willing to take on each trade before entering a position. This is known as a risk-reward ratio, the amount of money you might be willing to lose compared to the amount of profit you might want to make.
Generally, most traders might not risk more than 1-2% of their capital per trade, with no more than 5% across all their open positions.
Suppose a trader decides on a risk-reward ratio of 2:1 with a $1000 account. With this risk-reward ratio, they’re willing to risk $10 per trade to make a possible $20.
Another aspect of a risk and money management strategy is stop orders (standard stop-loss, trailing stop, and guaranteed stop order) and take profit orders.
A standard stop-loss order works by placing it at a predetermined level away from the market price. When the price moves against your position and triggers the stop-loss, your position will automatically close, protecting you from further losses.
A guaranteed stop order works the same way as a standard stop-loss; however, these are used primarily in financial markets with a higher chance of slippage.
When the price experiences slippage and the financial instrument’s price quickly moves past the stop-loss, this type of stop order will guarantee your position closes automatically regardless of how far the price moves against you. However, a fee is involved in guaranteeing the stop order gets triggered.
A trailing stop, on the other hand, works by placing the order at a certain number of pips or a certain percentage away from the market price. As the market moves in your favour, the stop order will automatically adjust to the price movement.
However, when the market starts moving against you, the stop order will stop moving.
Once triggered, it will automatically close your position, limiting losses and securing your profits.
A take-profit order is the opposite of a stop order, where you set the order at a predetermined level away from the market price for when the market moves in your favour towards the take-profit.
Once the price reaches your order and triggers it, your position will close automatically, securing any profits earned.
Emotional aspect
Many different emotions could interfere with making calculated trading decisions.
Emotions such as greed, fear, anxiety, temptation, or doubt could negatively impact your decision-making process, resulting in either overtrading or revenge trading.
Overtrading refers to opening a large number of positions simultaneously without putting any thought into your plan or strategy.
Revenge trading refers to opening positions without considering your trading plan or strategy to make money back, which you might have lost after suffering consecutive substantial losses.
When emotions start interfering with calculated trading decisions, it might be best to take a step back and return to the charts the next day.
Trading journal
A trading journal records all your trading activities and experiences during every trade. It can be seen as a diary, documenting every detail of every trade, starting with your analysis, which could include when to enter and exit the market, the type of strategy you’re using, and the outcome.
The information recorded within a trading journal might be unique to each trader.
However, some information that might be essential are entry and exit points, market conditions, reasons for taking a trade, and your emotional state before, during, and after a trade.
A trading journal could also be a learning tool, allowing you to revisit past trades, review your performance, and learn from winning and losing trades. This will enable you to gain insight into what worked and didn’t work within your strategy and where you could make possible adjustments if needed or build upon what is working.
