A question facing many who develop there first system is how they should develop trade entry signals. A good idea may be to used the indicators and strategies that you have had success with in the past trading without a system. Though often it can be hard to convert you discretionary trading system into a system trading strategy, due to the human element involved. It is wrong just to randomly a tack a batch of indicators and then test them on past data to see if the system is any good. While it would be much better to gain an understanding of why price movements occur, such as trends or breakouts and build a system around your understanding.
One approach to make the task somewhat easier is taking your normal discretionary trading strategy and writing down in several sentences which then can easily be turned into a formula. Then it should be pretty simple and straightforward to take your trading strategy and be able to turn into a trading system. You should attempt to do this for all your current trading strategy with the aim of creating a system that replicates your discretionary approach. You can then test this approach over historic data to see if the system would have been profitable over the long run.
What does a good trading system generally consist of?
- Fits around the traders lifestyle, its no good having a system that trades minute movements in the Forex markets if you have both work and family commitments. In that kind of situation you may want to develop a day to day strategy. Unless your willing to develop a full automated strategy and trust it while your busy with your other commitments.
- A strategy that includes money management concerns, in order to provide a good consistent return with limited drawdowns. There is no point developing a system that is profitable over the long run, if your capital is wiped out by short run swings.
- KISS- Keep It Simple Stupid. Avoid creating a strategy with numerous parameters, as this might require a lot input variables.
- Long term success over short duration success. Ideally the trading system should be able to be applied to multiple instruments. As this will allow you to take multiple positions in theory hedging your risk against being over reliant on one instrument.