By creating your own strategies you will have a much better idea about how your strategies work, compared to if you just use someone else’s. You’ll know when your strategy works and when it doesn’t, which means you’re better able to filter trades and capitalize on good opportunities.
Most of all, creating your own strategies takes a lot of work, which can be tedious, but it gets you looking intently at how prices move and act. All this market study is likely to improve your overall market knowledge, which will allow you to fine-tune and improve old strategies as well.
The starting process of any strategy is idea generation. The following are some steps to take to start generating strategy ideas. Once you have generated ideas you can go through a more in-depth process of testing them out. The testing phase involves fine-tuning and refining the strategy based on information received by trading the strategy in a demo account. Only once the strategy produces a profit over many demo trades should real capital be risked on a new strategy.
Coming up with strategy ideas is all about looking at charts, seeing where opportunity existed and then asking questions about how you could have taken advantage.
Price moves are what create profit potential. Scope out some price moves on your chart, then ask yourself:
- What started the move? Was it a chart pattern, a bounce off a trendline, a certain time of day, a news release, a breakout (or bounce off) of a resistance/support level?
- The ultimate question is what sort of trade trigger could you use to enter that trade? A trade trigger is a specific condition which allows you to spot trade signals in real-time.
- Consider factors such as whether you could use a limit order, or if you’d need to use a market to get filled in fast moving market conditions.
- Are there any indicators which could help highlight the trade trigger, or could the indicator be used to confirm the entry? Are Fibonacci Retracements of use?
Next, look for a way to get out of the trade that the trade signal (entry) produced. This stage is more important than the entry, because it is the exit that determines your profit or loss. If trading binary options, your risk and profit are fixed, so some of the questions below won’t be applicable. Instead focus exit-timing questions, and how to choose an appropriate expiry time.
- Can you find any signals that occurred just before the reversal of the price move you were trying to capture? An indicator may help in this regards, or looking to see if the price movement was slowing down prior to the reversal? Or if the price reached an important support or resistance area or Fibonacci target?
- Did the criteria you use to enter the trade disappear? When did it disappear? That could be an exit.
- Could a trailing stop be used? Or a profit target where you look to collect a specific amount of profit, such as 2:1 reward to risk ratio, or take a profit when you are onside $200 or 20 pips–these are all examples of fixed targets.
This section is discussed last, but is arguably the most important. You can have the best entries and exits, but eventually every strategy has losing trades. If you don’t manage your risk and capital properly those losing trades can wipe you out.
- Look at the entry and exit rules you’ve established. What sort of position size could you take on that trade? Do you have the capital to actually take this sort of trade? Will multiple trades be on at the same time?
- Based on the answers to the above questions, what is your risk on each trade(s)?
Try not to risk more than 2% (preferably 1%) of your capital on a single trade. When answering the questions above keep this in mind. If the trades too risky, then the strategy isn’t worth it.
- Does the profit potential of the trade warrant the risk? Basically losses should be bigger than profits; if it isn’t, it means you need a very high win rate to make a profit.
Testing is beyond the scope of this article, but is the next step. You have an idea, and have jotted down ideas for how to enter, exit and control risk. Now, flip through your charts to find more entry signals. How would the strategy perform? If it looks promising test the strategy on more data, or test it out in a demo account. Only once there is a history of profitable performance should the strategy be funded with real money. If the strategy does not perform well, then the whole process begins or again, or refine what you’ve got.
Consider if the strategy can be applied to other time frames, or in other markets. Consider whether it can be applied to smaller to larger price waves than you are currently monitoring. Look to see if the strategy performs better at a certain time or on a certain day; if there is a poor performing day, or time of day, then don’t trade during that time. Are there ways you can apply additional filters or relax trade filters to improve performance?