Trading signals – In the past few years, there have been great technological improvements in almost all aspects of our lives, including trading. These innovations have generated a lot of Signals Providers. Although these signals can be an asset for traders, there are a lot of misconceptions about the effectiveness of the signals and the best ways to use them.
Signals by themselves are not enough, traders need much more than just a signal. A signal like “Buy EURUSD”, even with an entering price, is not enough. One fact proves this clearly – 90-95% of traders lose money.
There are so many traders that lose money. Let’s assume that trading is like a coin flip game: even if we look at it like this, there should only be around 50% that lose money….but the number is much higher! Do they all have bad signals?
It’s not the commissions that kill them. Although commissions do play a significant role in trading, it’s not the case here.
These days it is very doable to extract a good signal. There is pretty good technology that helps with back-testing, there are good tools to apply statistical models to the market data, and we have our own rational logic to interpret data and estimate which direction the market should go…after all, aren’t the players and the markets rational? Not sure.
Two traders that get the same signal, let’s say “BUY” EURUSD, could end up with totally different results, one can end up with a very good profit, and the other can end up reaching his stop loss and losing a significant amount of money. But how? And why? They both got the same signal, but this moment was just the beginning of the most important part of the game, the execution.
Usually, traders just buy and then hope, getting out on the stop, or the profit if they are lucky. That is not enough – that’s part of the reason that so many traders lose money.
Because even after we get the signal, our job is far from complete; we must answer a series of questions that arise. What price should I buy at, and how much should I buy? Should I use a Market Order or Limit Order? After I get into the trade, where should I place my stop, and where should I place my profit? Am I going to scale in [Adding more lots into my trade], Am I going to scale out? [locking some profits in several points till I get to the final destination]. Do I have a final destination? How much should I expect from this movement? etc.
It’s not just words here, it’s the heart of trading – there is no easy money, and a trader’s work is extremely difficult. If someone tells you that he is trading and it is easy – I would be suspicious if he is even trading at all. But this is another story.
It is simple getting INTO the trade. Getting OUT of the trade is far more difficult.
When we have decided that we like to buy, we think naturally that it is a great opportunity, otherwise, we would not like to buy. We have learned that great opportunities do not last long in the market, this idea pushes us to open the trade ASAP.
Now let’s play a bit with our memory. How many times did you enter the trade and it just went against you, or maybe let’s rephrase it – How many times did you enter a trade and it never drew down from your entry point? Your P&L wasn’t red at all from the moment you entered. Probably all of us have the same answer here – not so many times – if ever.
We do not need to be in a rush to open trades – the market opportunities will always be there. Many traders enter trades just to be there, for the rush of the moment. Then they try to figure out the risk/reward, stop loss price, profit target, the way of exit, etc. It is just one click to enter the trade – it is the easy part, the execution, including the trading plan, is much harder to build and then needs to be carried out as planned.
Professional traders have a system* – it does not have to be automated, but they always have a set of guidelines that they follow.
*System – set of rules that govern structure or behavior.[Wikipedia]
Execution is the plan and the implementation of your trade, from the idea till the final P&L (Profit and Loss).
Before the opening of the trade as a trader, you would like to know all the details, how you are going to react in any scenario. There should not be any spur of the moment decisions in trading. We do not know where the markets are heading, but we can make sure we know how we are going to react in any situation, then when we are already in the trade, when emotions are getting higher, there is no need to really make any decisions, we just implement our plan that we already carefully mapped out. This method is much much simpler and helps us to avoid the emotional pitfalls.
Before opening the trade we want to be equipped with:
*assuming long position, one entering, one profit taking, one stop loss
Keep in mind that the stop loss and the profit target should make sense and be connected to reality. For example, a stop loss of 7 cents for Crude Oil and profit target of 40 cents, looks like great risk/reward, but in reality, it will not hold – as 7 cents in Crude Oil is a very small stop loss according to the volatility of this instrument.
After we have the trade plan, which includes the trade idea and a detailed execution plan, we can place the order in the market and follow our plan. Now we just need to follow our pre-defined rules, placing the orders at the right times and letting the markets do what they need to do.
We have a plan, we have executed the plan – it could succeed or not, but we need to stick to the plan unless we decide to switch to a better plan. Keep in mind, it is not a good idea to change the plan on the fly in the middle of a trade. This is not a plan, it quickly turns into chaos.
A few losing trades don’t mean your system is bad.
Trading is not about winning 100% or even 90% of your trades. A good trading system (manual or automatic) wins somewhere between 60-85% of trades, and the average win gains at least 1.75x the average loss.
Trading is hard – yet there is a proper way to help us to gain and keep the edge we need. The reason most people lose money is not the idea, but the execution of the idea.
A good enough idea with great execution is what produces success, trading is not about foreseeing the market’s direction, but about great execution.
In the next post, we will talk more about execution and simulate real situations of trading and all the processes a trader goes through.
This blog is based on a presentation given at the ChinaForexExpo in Shenzhen, China at May 2nd, 2017