The three T’s to becoming a speculator: sell stop plan, trade worksheet, and trading journal. Without a doubt, if you want to develop trading into an avocation or you want to improve your demo trading, or you wish to trade for a living, you cannot ignore either of these three tools. This particularly goes for your demo-, paper-, or test-trading account. Utilizing these three tools effectively makes your day-to-day trading go a lot smoother.
First Tool: The Trading Plan
You want to ask yourself as many questions as possible when developing a trading plan. Here are five quick questions to begin your trading plan.
The first question you have to ask yourself is: What markets do I want to trade?
How you answer this question will ultimately determine your longevity in trading. There are many factors that determine which markets are best suited for you. Do you want to trade very volatile markets or low-volatility markets? Do you live on the West Coast where it’s difficult to see the 5AM opening bell for some markets? Do you travel a lot and you can’t stare at your screen all day long? The market or markets you pick to trade should best suit your lifestyle.
It is also best to pick only two to three markets that you sincerely want to trade. It is difficult to understand and trade the subtleties of every single market available. While technical analysis can be applied across the board, as a specialist, you begin to understand what actually makes a particular market tick. You can then manage your money and your trades according to the rhythms in that market. By focusing on a handful of markets, you can become a specialist. Without a doubt specialist in any field tend to fare better.
The second question you have to ask yourself is: What am I trading for?
Knowing why you are trading stocks, futures, forex, and options is imperative. Is it for fun, like a gambler, or is it a true desire to speculate? Or are you trying to “hedge” your overall investment portfolio? What many investors forget about trading markets like futures and forex is that there are two aspects to it. It can be both the riskiest investment and the least risky investment at the same time, if you use it properly.
For example, during the dot-com bubble, many investors had mutual funds and stocks that closely matched the Nasdaq 100. When the market began to slow down and investors found themselves in the precarious position of not knowing if they should liquidate their tech stock and investment portfolios, they could have simply used Nasdaq futures to protect themselves from any quick drops in value.
By looking at futures from both sides, speculating and hedging, you can come up with more versatile strategies of managing your money over the long haul.
This leads us to questions three through five: What am I hedging against/for?, How many contracts would it take to accurately hedge part of my portfolio?, and How many contracts would it take to accurately hedge my entire entire portfolio?
These questions are designed to get you to think outside the box as a trader. Look at how your current investments are linked to interest rate fluctuations, the S&P 500, or the Dow Jones Industrial Average. Calculate how much you stand to lose when these markets move against you, and from there you can figure out how best to hedge yourself. None of these markets operate in a vacuum; there are ways for you to protect yourself from stock market adversity if you open your eyes to the hedging side of futures and forex investing.