By Mark Thomas — Trade On Track
Continuing on with our Time-based forex trading strategy, today I’m going to cover some goals that I would like the strategy to meet, as well as an overview of the components forming our trading strategy.
Many traders place too much importance on the entry signal or the “setup” for a trading strategy. A complete trading strategy is much more than just an entry signal. While the entry is important, we also need to consider factors such as money management, the exit, taking partial profits if appropriate and whether or not the strategy is actually suited to the trader.
In developing a trading strategy I like to set some goals in advance. For the time-based strategy that we’re developing, I have defined the following goals:
The trading strategy will be based largely on ‘time’ factors. We’ll try to avoid other indicators and just stick to consistencies or patterns that are time-based.
The strategy should be as simple as possible. It needs to be easy enough to learn and use so that traders can actually pick it up and use in their toolkit. Strategies that are too complex tend to get tossed into the too-hard-basket. There should be tight stop losses in place so as to keep our risk under control. Stop losses were discussed in the last article and we’re going to enforce a rigid stop loss rule with our time-based strategy.
Look for a high reward to risk ratio. This is often quoted as risk/reward, but it’s more appropriate to label it as reward:risk. We’ll be looking for a reward:risk ratio of at least 2:1, meaning we’ll be looking to win at least twice as much on winning trades as we lose on losing trades.
The strategy should have clearly defined entry and exit signals. This fits in with the ‘keep it simple’ philosophy where we want the system to be simple to use with objective (rather than subjective) signals.
We want the system to be profitable in the long term. Not many would argue with this as a goal in a trading strategy.
The profits or outcomes of our trades should be reasonably consistent. We don’t want our return to be jumping around too much – it’s easier to project profits if we can have a fairly consistent win rate.
As I mentioned in the last article, I have actually found a time-based pattern in the charts which I thought might work well. I’ve taken that further now and have developed an overall strategy which meets the above guidelines. The surprising thing was, this strategy actually turned out to be very, very good! I’m extremely excited to be able to bring it to you, completely free, and hope that you treat the learning of the strategy seriously and try to execute it as accurately as possible so as to see some decent returns.
I’m not going to lump all the details onto you just yet because I feel it’s important to understand the process of developing the strategy and the workings of it, so that you can develop your own strategies in future as well.
Here’s an overview of how our time-based strategy works:
It is traded during the New York session. I realize this is not ideal for everybody (including myself because the NY session happens in the middle of the night for me), but I thought it probably suits the majority. It should be possible to find similar setups for the other sessions for those keen to do some research.
There is just one trade per day, maximum. In some cases a trade may not be taken at all, but most days there will be a trade.
The strategy has been developed on just one currency pair, the EUR/USD. I haven’t really looked at whether it will work on others, I’m guessing it will with a few alterations, but let’s just stick with the one for the purposes of our plan.
The strategy doesn’t win every time, but it does produce profits in the long term. For those of you that are new to trading, you need to get used to the fact that not every trade will be a winner. In fact, with this strategy, I have seen up to 11 losses in a row. Please don’t close your mind to the fact that this strategy can still make you a lot of money though, because it can!
The strategy has clearly defined entries, stop losses and exit levels. We try to lock in some profits during the trade when possible. I have developed some very precise rules for doing this to produce the best outcome possible.
We’ll be using some quite advanced money management techniques to maximize profits and avoid big losses. Yes, there may be up to 11 losses in a row, but you’ll see how the money management rules keep things under control for us.
I’ve done some fairly thorough back-testing of the strategy, on two sets of data over the last 12 months. I’ve taken into account reasonable spreads in the testing and have come up with some great results.
The strategy will require quite a bit of discipline to execute it properly. I’m not saying the strategy is difficult to execute, but you will need to keep your emotions and your trigger finger under control to keep the profits rolling in.
So, where to from here?
In the next article I will describe the entry signal and the stop loss level. I’ll provide a video showing how I found the setup and how you can do the same thing to find and develop your own strategies in future.
Hold on to your hat because I think you’ll be impressed as we get more into this!
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