If you’re trading without a well-defined system or methodology, you’re essentially gambling, and the odds of long-term success are slim. Consistently trading a winning methodology is what creates an edge in the market, and enables traders to historically win, control risk, and keep their emotions and egos in check.
But how do you develop and execute a winning methodology? By asking yourself a series of essential questions before every trade. Here are ten questions every trader should consider:
- Does this trade fit my chosen trading style? Whether you’re a swing trader, momentum trader, breakout trader, trend follower, mean reversion trader, or day trader, you need to ensure that each trade aligns with your chosen trading style.
- How big of a position do I want to trade? How much capital am I willing to risk? It’s crucial to limit your risk to 1% or 2% of your trading capital, and calculate your position size accordingly.
- What is my risk of ruin based on my capital at risk? You need to know your risk of ruin, which is the probability of losing your entire trading capital, before entering any trade.
- Why am I entering the trade here? What is the trigger to trade? Identify the catalyst or setup that’s leading you to make the trade, and ensure that it’s based on a sound, data-driven decision.
- How will I exit with a profit? A price target or trailing stop? You need to have a clear profit-taking strategy in place, whether it’s based on a specific price target or a trailing stop.
- At what price will I know that I was wrong? Where is my stop loss based on the position size? Identify the price level or indicator that signals that you were wrong in your trade, and place your stop loss accordingly.
- Will I be able to admit I was wrong and exit the trade if my stop is hit, or will my ego make me hold and hope? It’s essential to keep your emotions and ego in check and exit the trade if it’s not going in your favor.
- Is the risk small enough that I can emotionally handle the loss without blaming the market? It’s crucial to ensure that you’re trading with risk capital and not risking funds that you need for living expenses.
- Can I really risk this money or do I need it for upcoming bills? It’s important to evaluate your financial situation and ensure that you’re only trading with funds that you can afford to lose.
- Am I committed to staying disciplined and following my trading plan on the trade? Once you’ve established your trading plan, it’s essential to stick to it, regardless of the market’s fluctuations or your emotions.
By asking yourself these ten questions before each trade, you’ll be able to identify high-quality opportunities, minimize risk, and maintain a disciplined approach to trading. Ultimately, the answers to these questions will determine your success in any trade more than anything else.