Trading system structure
Developing a trading system focuses on market behavior and market movement. For this purpose understanding inner organization and trend cycles is a must. Trader’s behavior and movement of prices should be taken into consideration.
The market is made up of three trends. The first trend, the one which indicates continuous flow, lasts for several months and should be use to determine market direction for opening positions. The second trend is the correction line lasting for several days and determined by more sensitive indicators. The third market movement looks like a sideways trend between correction and main trend extensions. This is the shortest trend continuing for one to two days. However, with this case the main trend will not be followed by a correction, but with a new opposite trend. When looking for a point of entrance to the market, two or three trend indicators should give a sign to open a position. As to closing the position, an oscillator and a trend indicator are used.
Opening a position
First, the system uses a less sensitive indicator with larger order to determine the major market direction. After the direction of the market in medium term is defined, the next target is finding a medium-term indicator giving signals within a long-term trend. Such signals usually appear after the correction of the major trend is done. Another series of signals are required for the first intermediate signal of the medium-term trend to appear before the long-term indicator allows the system to trade in that direction. As this proceeds the trader needs to focus strictly to the sequence of signals from the indicators of various sensitivity. Base on this sequence, signals should appear in the following order: short-term, medium-term and long-term. As soon as the trend is defined, first intermediate and short-term signals will be visible, and receiving of repeated intermediate and short-term signals for several times within a long-term trend is prior to the system.
There are different intermediate indicators, including single and double moving averages, channel breakouts etc. The system usually does not allow each of them, but rather uses them in the aggregate. As a result, the system is based on a combination of indicators, which can contradict with each other at worst. In such situation a trader should choose an indicator most suitable for him/her.
A position is opened by a market process activation followed by an intermediate signal. There are also certain choices for starting mechanism.
Opening a position
After finally learning the rules of opening a position it is essential to know how to close it. However, this is an open question for most traders. The main trader’s target is to clearly define the end of the major trend or the beginning of the correction. Besides, a trader should gain control over him/herself when getting small profit or loss.
It is very important to remember the positions that are opened since the help of a signal is not always reliable because sometimes mistakes regarding trend indicators are made. For this purpose stop signal is necessary for it will determine the moment for the system to close a position. Stop signals are used to prevent a trader from money loss. Experienced traders uses stop signals; those traders disregarding stop signal suffers losses.
When trading according to plan a trader should choose be quick in choosing between getting sure profit or make further trading with hopes of larger profit. What should one do in this situation? One option is using trailing stop signals; another one suggests taking advantage of oscillators capable of predicting corrections and reversals of the trend.
Using stop signals
Five types of stop signals:
1. Max stop loss. Use when the appointed share of initial funds or a fixed amount in an open position is lost.
2. Trailing stop. It closes the position where an appointed amount of current profit is lost.
I.e. the stop signal follows the market and when the profit decreases all positions are closed automatically.
3. Profit target stop. This stop signal closes the position if the predetermined profit has been achieved.
4. Breakeven stop. It allows a trader to determine a profit level; when the market exceeds this level a stop signal appears for exit. This is a way of insuring your funds are safe.
5. Inactivity stop. This is activated when the market cannot provide certain profit for the open position during a given period of time.
In addition to the type of stop signal a trader should choose the size of the signal. Stop signals are divided into two categories: close and distant. Ideally, a stop loss should be located far enough to barely transcend accidental price movements, and close enough for convenient control over trading risks.
Proper usage of oscillators and trend indicators
Trend indicators follow the market tendency. Organizations of indicators show past price dynamics; they indicate the beginning of a new trend only after it had appeared, thus making predictions is not wise. It may cost an amount of time and may affect the trend, and a possible move of the price in the undesirable direction has a possibility to occur. If a stop loss was not set, a trader would definitely lose a part of his profit.
In this case oscillators following a trend can be helpful. Unlike trend indicators, oscillators can be effectively used when there is no major trend and the market dynamics is limited by a quite narrow horizontal price corridor.
However, identification of market corridor limits is not the only function of oscillators. Combined with the analysis of price graphs while prevalence of a certain tendency, oscillators can predict short critical periods in the market activity called overbought or oversold market.
Requirements in developing a trading system
Psychological and financial resources have great influence toward the trading business. A trader must possess the ability to control his behavior and emotions especially if the outcome of the trading did not go according to plan, he should learn when to stop to prevent further loss. Remember that the trading system depends on the trader so he should adhere to the virtue of patience and great control over his temper.