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4 Steps to Create a Day Trading Plan

4 Steps to Create a Day Trading Plan

4 Steps to Create a Day Trading Plan

The trading plan is a major piece of the puzzle when it comes to day trading. Successful traders create a trading plan and then stick to it so they can quantify what works and what doesn’t. A trading plan is a written document which states the precise actions a trader will take under specific conditions.

When real capital is on the line, decisions can become emotional or impulsive. The trading plan helps alleviate this, because what the trader needs to do in a particular circumstance is all laid out before hand.

A basic trading plan is completed in four steps/parts. While each part may include a lot of information, this basic guide will get you started. Avoid trading until you have a working trading plan you can follow. Practicing in a demo account for several months while you build your plan, and work out the kinks, is usually required.

1. Choose Your Market and Time Frame

In this part of your trading plan define which market you will trade: stocks, ETFs, forex, futures, options? Take it a step further and define what you’ll trade within the category you’ve chosen. What criteria must a tradable meet in order for you to consider trading it? (See: What to Look for In a Day Trading Stock)

Assuming you’ve decided to become a day trader, what time of day will you trade? The most popular times are the first one or two hours after the open, and the last hour of the trading day. Also consider how active you’ll be. Traders who make trades based on tick or 1-minutes charts tend to be more active than traders who trade on 5 or 10-minute charts .

Also consider if you’ll monitor multiple time frames. For example, do your trades on a 1-minute chart have to be in the same direction as the trend on a 5 or 10-minute chart?

These are some questions to ask and answer in this section of the day trading trading plan.

2. Money Management Rules

Traders set limits on how much they are willing to lose on a trade. Many traders risk 1% or less of their account capital. This way, even a string of losses won’t significantly draw down account capital. Set a percentage limit of your account you’ll risk on each trade. By setting this limit you can then determine your ideal position size on each trade, in conjunction with your exit guidelines (step 4). For more, see: Determine Proper Position Size for Stocks, Forex and Futures.

Also, establish whether you can take multiple positions at one time, and how many.

If you opt to make more than one trade at a time, include specifications on whether the trades can be correlated or not. Ideally, if you’re holding multiple positions you want the positions to have low correlations with one another. In this way the trades move independently of each other. If you take multiple trades which are highly correlated, you could end up losing on them all.

Setting a daily risk limit is also a good idea. This is called a daily stop loss and helps prevent a single bad day from ruining your entire week or month.

3. Entry Guidelines

Entry guidelines determine exactly how and when you will enter you trade. What conditions must be present in order for you to take a trade? These conditions must be precisely defined, so in the heat of the moment you’re never confused about whether you should be taking a trade or not.

When the price crosses a specific threshold, or when an indicator does something specific, are both common ways trades are “triggered.” Also develop guidelines on “context.” Trade signals may occur all the time, but do you only take trade signals during a trend, or if volatility is over/below a certain level?

Create guidelines for what needs to occur in order to get into trade. Then decide how you will get in. Will you use a market order when a trade occurs, or will you put out a pending order which could give a slightly better price but may also mean missing the trade entirely. Learn more about Trading Order Types here.

See Also
low risk high reward

For more on entries, see: Keep Your Day Trading Simple–Here’s How.

4. Exit Guidelines

Exit guidelines must cover both winning and losing trades. For losing trades, place a stop loss at an appropriate spot based on the strategy.

Exiting winning trades can be more complicated. Common approaches include a trailing stop, exiting when the conditions which got you into the trade disappear, setting a profit target based on technical analysis, or setting a profit target based on a risk/reward ratio.

As with the other steps, lay out your exit guidelines, then then stick to them. If you beginners in trading and still not check our article for beginners then See: First Three Goals for Beginners in Day Trading.

Final Word

Each step is important, as all steps work to together to create the whole. Money management is often overlooked, yet is one of the most important factors in trading success. Risk too much and the account will be wiped on a string of losses. Risk too little and you may never meet your goals.

Your trading plan is your action plan. Everything you do in terms of trading is dictated by this plan. Don’t make trades which aren’t outlined in the plan, and take all trades which the plan says to. This allows you to quantify the method because you know exactly what you did on each trade. This allows you to make slight changes to the plan if it isn’t working, because over many trades you’ll be able to see what its weaknesses and strengths are.

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