Chapter 8: Golden Rules for Successful Trading

There are dos and don’ts for traders. These are rules the very best live by. No one is born knowing all this. The way to acquire them is the same way many other successful traders have: through patience, focus, discipline and experience. This manual will shorten the time required to learn all of these, but you still need to develop your skills.

Golden Rules of Risk Management

As we already know, there are more risks than merely the risk of losing money between the entry price and the initial Stop Loss of a trade. These risks include slippage, volatility and price gapping. Many fail to appreciate that a normal run of trading losses may deplete your account entirely before you have a normal run of profits—game over before it has begun.

Always use a Stop Loss

Stop Loss orders are your primary tool for limiting risk. (Remember, data and news events where Stop-Loss order executions can be subject to substantial slippage. You can avoid that risk by not having positions into news releases. You cannot avoid the slippage risk of a truly random event. No one can). The Golden Rule is all positions must have a Stop Loss in place. Have the discipline to place a protective Stop the moment you've entered a position. Do not wait; the Stop should have been part of your trade plan. Only move Stop-Loss positions forward, never back. Never change your Stop to a more risky level after you have placed the initial Stop. This Stop was decided as part of your plan and with clear thinking before you entered the market. Now the Stop level has been threatened, your thinking is not clear and moving it to avoid hitting it his foolhardy. Remember, Stops have a purpose; they are there to stop a loss. Cancelling them or moving away is a recipe for disaster and rarely benefits you. This rule should be rigid. Stops should only be moved to protect profits. Stick to your trading plan.

Use minimum leverage

Don't be seduced by the high leverage you are offered into taking too large a position. Trading too large relative to your available margin reduces your cushion against routine, adverse price movements. Keep your use of leverage to a minimum needed to execute your strategy. Just because you are offered 1:100 leverage, doesn't mean you have to use it all.

Stick to your plan

Trading is an emotional and psychologically difficult business. You must have a plan. The best way to limit trading emotions is to develop a complete Trading Plan from trade entry to exit and all order changes in between before you open a position. Your trading plan discipline will stop you from speculating on a whim or over-trading. Your best chance of sticking to your trading plan is to have one written down in the first place.

Know what's going on

Make sure you follow your markets closely. In particular, the securities which you trade. Know what data and events are scheduled in the time horizon are likely to hold your trade. The economic calendar is there for you to see. Consider the liquidity conditions during the time you are you're likely to hold the trade. Remember, Christmas and other religious holidays, summer doldrums, long weekends. What news has the market price already priced in? Anticipating market events and conditions will not guarantee a winning trade. Still, it will alert you to potentially disruptive circumstances, and you can factor them into your trading plan and limit your overall risk.

Play your strengths

The markets trade around the clock, but this doesn't mean you have to be in the market all the time. Pick your levels with care and choose your timing; don't get pulled in by the forex market's excitement and clamour. Keep your ammunition dry, and look for trade setups with clearly defined risk-reward ratios that match your plan. Be selective and opportunistic and spend your time and efforts looking for the best trading opportunities and not just taking any that appear. Be choosy. Opportunities develop all the time, and you must be ready for them and have the capital to exploit them.

Stand Aside

The market appears clearest when you're not in it. Your best laid plans will be when you do not have the pressure of an open position and a moving P&L and your perspective is clear. Your objectivity is at its best when you have no positions, and, above all, you're not overwhelmed with the emotion of a market position. You should appreciate how very difficult it is to make a good decision under pressure.

Tip: Why do footballers who are paid millions ever miss a penalty? It is something they have practised and never miss. It is, in fact, easy. Why do they fairly frequently miss the wide, almost open, goal and send the ball over the bar? How is this possible? Because of the pressure, and they are overwhelmed by the consequences of the moment, they cannot do something that is normally easy for them.

Important: This example of a footballer is the same for traders. You can be a great and very disciplined trader, but when under pressure you can still make mistakes. Do as much thinking as you can when there is no pressure – before you enter the market.

Make it a point to go square and step back from the market regularly. Use the downtime to catch up on your charting and fundamental analysis. Take time off completely, and just forget to trade for a while. When you return you'll be refreshed and thinking more clearly ready and sharp for a new trading opportunity.

Take profits

Taking profits also reduces risk. Even taking a part profit, you’re reducing your exposure to the market. Your trade plan may have a more aggressive profit target, but if markets events play out in your favour, it pays to protect what you've gained by taking partial profit or adjusting your Stop-Loss order to lock in some of the gains. Occasionally, the market will flukily jump in your favour on some news or data release. These moves can quickly evaporate. The only way to be sure is to take some profit.

Select the right pairs

Currency pairs are different from each other. The risk of each pair varies based on volatility, liquidity, Bid/Ask spread. Each pair has its own fundamentals and behaviour pattern. Different pairs also attract different margin rates and pip values.

Tip: Ensure you know the currency pair you are about to trade and its characteristics and make it part of your plan.

Check and check again

Trading is a fast-paced and pressured occupation. Significant financial obligations are just a mouse click away, and human error can be very costly. The Stop will not save you if it was forgotten to be placed on the market or was put on the wrong currency pair or for the wrong amount. Double-check everything. Mistakes happen to everyone but do not allow a small error to become a big financial disaster.

Tip: Closeout errors immediately. Never try to work them as an unwanted position. This is the source of many trading disasters.

Take money off the table

If you make some money in the market, withdraw some from your trading account. If your profit stays in your margin account, it will affect your future trading decisions, presenting an inflated view of the risk you can take. Keep your account balance at a level that allows you to trade the sizes you're comfortable with – the account size which matches your plan.

Tip: We call this taking money off the table. Take out your profits and spend them or invest them in a way you always said you would. The objective of trading is to make money and keep it.

Common Mistakes

Trading mistakes are not just made by beginners. They are made by everyone, from those just starting in trading through to battered and skilled veterans. No matter how much experience a trader has accumulated, they are bound to experience lapses in discipline, whether brought on by unusual market developments or extremes of emotion.

Running losses, cutting profits

Time and time again, traders will run their losses (hoping that they will get better) and cut their profits early in surprise of seeing their account in positive territory. This is all too common. By cutting winners early, they may not make as much, but (in their mind) traders imagine they cannot go broke by taking a profit. This is not true. They can, and do. Traders will deplete their trading capital if they let losses run into big losses compared to their profits. They then need to more (in number) small than their large. Big losses and small profits mean the ratio of losses to profits has to be extremely skewed towards profits. This is unlikely or impossible to achieve.

Tip: The way to limit losses is to follow your trading plan, which always has a Stop-Loss order and always stick to it. No one is right all the time, so you have to get used to the idea of taking losses as part of the experience of trading but make sure they are small and manageable. Then you can refocus on looking for the next winning trade with your capital intact.

No plan

No one who trades without a plan ends up a winner. Traders must plan what they are going to do, making sure the trade makes sense with appropriate Stops, trade management policy, and targets. Great traders resist the urge to trade spontaneously based on some news or instincts without a clearly defined risk management plan. If you have a view, make a plan, specifying where to enter and where to exit. Great traders do not cut corners.

Tip: Remember, the increased risk when trading around important news and data releases. Ensure you know the economic and events calendar to identify these upcoming risks and include them in your trading plan, which may mean standing aside in advance of such events. In any case, the Stop risk you usually use in your plan may not be appropriate when there is data.

No Stop Loss

Important: trading without a Stop Loss is the best recipe for inevitable disaster. Trading without a Stop Loss is how a small, manageable loss becomes a devastating wipeout. Using a Stop Loss as part of a well-constructed trading plan with a specific expectation based on the traders' research and analysis is a sound plan. The Stop Loss level is where your trade strategy is invalidated, and after that, you have no reason or excuse to be in the trade.

Moving Stops away

Moving a Stop-Loss order to avoid it being executed is the same as trading without a Stop Loss order at all. It reveals a lack of trading discipline and will lead to major losses.

Tip: If you did not want to take a small loss based on your original trading plan, why would you want to take an even more significant loss after moving the Stop? If you are like many traders, you won't and you will therefore keep moving your Stop to avoid taking an even larger loss until your margin runs out and it's game over. You placed your initial Stop after consideration and while forming your plan. Stick to your plan. Take the medicine. Often a short while later, you will be very glad you do. Now with a clear mind and a healthy account, you can carefully plan your next trade.

Overtrading

Many traders feel they always have to be in the market, and there is always something going on. If a trader has a position, then they have money at risk. The essence of disciplined trading is to minimise the risk exposure to unnecessary risk. Experienced traders focus on the trade opportunities where they believe they have an edge and apply a disciplined trading plan. When they feel they have no edge, they stand aside patiently.

Tip: Some traders are infrequent traders of a pair but trade many currency pairs. Trading too many positions at once suggest you think you are able to spot multiple trade opportunities and exploit them all at the same time. It is more likely just trading randomly, hoping that something makes a profit. Having too many positions also eats up your margin collateral, which reduces your cushion against adverse market moves and executes a well-thought-out opportunity when it comes up. Don’t tie up money for no reason.

Overleveraging

Overleveraging is another form of over-trading . Overleveraging is trading too large a position size relative to your available margin. Even a small market move against you can be enough to cause an over-leveraged position to be liquidated due to insufficient margin.

Tip: Generous leverage ratios available from your broker do not mean you have to use it every time. Don't base your position size on your maximum available position. Base your position size on trade-specific factors such as proximity to technical levels or your confidence level in your plan. Your plan will help you realise the danger of your overexposure.

Not adapting

The market is always changing in behaviour. Your trading approach needs to adapt and be flexible too. Markets consolidate and range trade and then suddenly break into a new trend. You must stay flexible in your trading strategy by first evaluating the market conditions in terms of the presence and power of trends or their trading range. If a trending move is underway, using a range trading or mean-reverting style will not work, just as a trend following approach such as using moving averages will fail in a ranging market. Use technical analysis to highlight whether the range or trading conditions prevail.

Tip: Stay flexible with your use of technical indicators. No single indicator will work all of the time, so use a combination of complementary technical approaches.

Not being market aware

Traders must be aware of what's going on in the world's fundamental news events. Even pure technical analysts take note of important releases coming up. It is a trader’s job to be well informed.

Tip: You may see a great trade setup, but your currency pair has a data release just a few hours away. Delay.

Conscientious traders make the fundamental data and news release calendar essential reading and part of their daily or at least weekly routine.

Tip: There are lots of random and unscheduled price moving events around but don't get caught out by the ones you should know about.

Being too timid

There is not a trader in the world who wins all the time. All traders will experience losing runs. After a series of losses, an inexperienced trader may find themselves trading too defensively, focusing more on avoiding losses than spotting winning trades.

Tip: This is altering your trading plan. Losing streaks are normal. Imagine the losing streak and finding your position too small; the profit on that trade is insignificant. You must be consistent and stick to your plan.

Golden habits for success

This section covers habits that you should cultivate to join the elite group of successful traders. Many of these habits apply to traders in any market and are not unique to forex. No trader is born with these habits. They will only acquire them through patience, discipline and experience. But knowing your goal over accumulating and perfecting these habits put you ahead of the crowd.

Your most important habit: Your plan

No trader lasts very long without a well-conceived thought-out trading plan for each trade. Some traders have some short-term success trading using their gut, but there is an inevitable reckoning. The bulk of retail traders operate without a plan and end up in the majority group of disappointed losers. Successful traders have a plan for each trading position they undertake, including the position size, entry point, Stop-Loss exit, position management strategy and Take-Profit exit.

Proficient traders are flexible with their Take Profits, sometimes accepting less if they judge it all they can make out of the market at the moment. At other times they extend their profit target if the market developments are shifting in their favour. They have that maturity and experience to do this. But experienced traders never move their Stop-Loss orders from the original setting unless it's in favour of the position to lock in profits. This is a Golden Rule.

Forward-thinking trader

Experienced traders play the trading game like chess. In chess, a good player will be thinking three or four moves ahead. This is as far as they can see in practice as there are many many many variables the further ahead you look. Successful traders look ahead and prepare for future events and how much the market has or has not priced in an expected outcome. They also consider what will be the likely reactions if the event matches, or fails to match those expectations. They then construct strategies based on those alternative outcomes. As the news and events unfold, they implement their strategy as a semi-automatic process. The rest of the market is trying to figure out what to make of the event, checking the charts redrawing their trend lines, fiddling about with the Stops and making difficult decisions under extreme pressure. For a process-driven trader with a plan, trading is not a stressful experience. The trader knows exactly what to do at any time and simply does it.

Flexible trader

The best traders control the risk of becoming attached to positions emotionally. They realise it's not about being right or wrong; it's about making an overall profit. Individual profits and losses mean little compared to the big picture of long-term profitability. Experienced traders adapt to incoming news and information. They may quickly get out of an open position if events run against them instead of waiting for the Trailing Stop to be executed. They are cautious about doing this as it is an alteration to their plan made under stress and realise that their decision could be emotional and wrong. The ability to be flexible comes with experience. Only experienced traders should deviate from their plan.

Prepared trader

Before successful traders start their trading day, they run through their checklist. They know they must prepare for :

Upcoming news and data releases that are due in the next week or two. Know what prior report indicated and what's expected in the upcoming report.

Tip: This could be your list —

  • Scheduled speakers: find out who's speaking, central banker or finance officials, what they've said in the past, and what they're likely to say this time.
  • Central bank interest rate setting meetings and announcement times: know when they are scheduled and what decision the market is expecting and has priced in. Perversely, a ‘bad’ number may cause the market to go up if it was already priced in.
  • Important gatherings of financial leaders, such as G7 meetings or gatherings of eurozone finance ministers: get a sense of whatever currencies are on the agenda and what actions are expected by the market.
  • Liquidity conditions: stay aware of time periods, such as end of the month or quarter, market closings or Holidays and time of day, for example, European closes, option expirations, futures market closes  — when liquidity and volatility may be affected.
  • Shocks: no one can predict truly random shock events. But they're always lurking there, and you must expect the unexpected. Black Swan events happen more frequently than statistical analysis predicts. Make sure one of these events will not mean game over for you.

Technically aware trader

The short-term trader may feel that a 200-day moving average has no relevance to them, but it will have bearing to a lot of traders, often large and influential position takers. Sophisticated traders are well aware of other people’s technical levels even though they're not part of their own trading plan.

Trend following and countertrend trader

To be a successful trader, you must be able to discern whether the market is trending or confined to a range. Successful traders think that when the market is trending, they aim to go with the flow and are hesitant to go against it. I want to buy dips in a rising market and resist the temptation to sell into a rising market. They want to use the zigzagging within the trend as opportunities to take profits when the market had overextended or added when the market pushed back against the trend.

During range-trading conditions, experienced traders can switch tactics and become mean-reverting traders. This means that they are tempted to sell near the top of the range when everyone else is buying or buy near the bottom of the range when everybody else is selling. Monitor the levels where the range will break out very carefully and quickly stop out if the boundaries are breached. They may then want to follow the new trend that develops after the breakout.

Tip: A trend follower buys strength and sells weakness. A range trader sells strength and buys weakness. They do exactly the opposite things depending on the presence or absence over trend. It is therefore absolutely vital to determine the presence and strength of a trend.

Specialist trader

Many successful traders focus only on one or two currency pairs for most of their trading. Doing so enables them to become intimate with those markets in terms of price levels and price behaviour. It also reduces the amount of information data and news they need to monitor.

Tip: New and inexperienced traders should start by focusing on one or two currency pairs only and broaden out as they become more experienced and able to handle more information flow.

Profit protected trader

To be a successful trader, you must make profits. Successful traders take profits regularly, whether it's a part profit, reducing the size of a winning position, or squaring off completely and standing aside after a profitable market movement. Then they have a clear mind to make a plan for their next trade. Crucially, when a trade is in the money, successful traders focus on keeping what they have made and not giving it up for the chance to make a little bit more. They balance this with the desire to run profits as far as possible. It’s a balancing act which takes time to develop and is difficult even for experienced traders.

Stop protected trader

No trader makes a profit every time. Their strategy may allow them to run profits well and cut losses quickly.They may have a poor lose-profit ratio, for example, six losses for every profit. But if they make 3.5 times what they lose every time they win, they will be profitable traders in the long run. Day traders will often aim for a positive profit to loss ratio in their trading plan. Their pattern of profits and losses maybe more like eight modest profits than a couple of big losses, but overall profitable. This profit-to-loss ratio is part of the trading plan they make before they start trading. They have decided what type of trading will work best for them.

The most important characteristic all successful traders have in common is to have a Stop Loss in place from the moment of trade entry to prevent an everyday loss from becoming a game-over loss.

Tip: We all dislike losing money, but successful traders accept it as part of their business's cost and nature. It is nothing personal. It is inevitable. The only way they can regularly accept losses is by keeping them small and then trade on. It's very important to master this habit.

Market aware trader

Intermarket relationships are strong. Currencies do not trade independently of everything else, and successful traders keep an eye on other major markets as a part of their routine. They must focus on benchmark bond yields about the major currencies (US, German, UK and Japanese 10-year bond notes), oil, gold, and equities. You may or may not trade them, but you must know what is happening to them.

Short- intermediate- and long-term traders look at other markets for confirmation of USD directional bias, for example, if the dollar is moving higher, US 10-year yields are rising, and gold is falling, the smart trader has confirmation from other markets indicating that the dollar really is strong and should move higher. But if 10-yields are flat or down, and gold is higher, the dollar moves up may only be short-lived because other correlated markets do not confirm it. On a longer-term basis particularly, currency traders analyse those markets for major technical levels and overall directional trends, just as they do for the currencies they’re trading.

Tip: Make sure you are monitoring the technical and fundamental condition of the dollar, interest rates, gold and the equity market at all times. Be cautious if you are not receiving confirmation from the other markets. Be bold if the other markets confirm your position.

These are some of the habits of successful traders. These are skills to cultivate. Like any habit, practice makes perfect. Practice these habits at all times. If you seriously want to be a successful trader, you need to take the time and make an effort to work hard at it. If it were easy and required no work, everyone would be a successful trader. The reason most are not is that they are lazy traders. Only those willing to treat trading as a business and work hard will join the elite group of consistent, long-term winning traders. Be under no illusion: you are sure to be in the majority if you are unwilling to make an effort and trade for fun.

Read more about leverage in our glossary

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