Sometimes, but rarely, people just go out into the wilderness and start hiking with no sense of purpose or direction. No plan, just one foot in front of the other and go! These are the ones who also get their 15 minutes of fame being rescued by Forest Rangers, National Guardsmen or Firefighters because they had no plan before they set out. Those less likely to end up on in a viral video about their rescue have a plan on where they want to go and your trading should be no different.
You shouldn’t be out there just slinging trades around the market like Spider-Man firing off his webs with no thought as to why you’re making a particular trade or how you plan to get out of it.
And of course, without a systematic plan for trading we can’t even begin to understand what’s working (or not) with this plan. So, if you don’t have a solid trade plan, stop… slide your cursor here…click and read my post on how to build a trading plan. Don’t worry…I’ll wait.
For those of you with a trading plan who want to improve your trading let’s take a look at what we want to get out of the 180 Your Trading process.
When you first built your trading plan it was perfection. You’d carefully analyzed charts, looked at all kinds of technical indicators and with the attention of an old-world craftsman very carefully put your plan to paper (or digits). Your masterpiece was complete. Michelangelo would ask you for advice.
As time passed you began to notice little imperfections in your masterpiece. A trade here didn’t go to plan, a trade there created a huge drawdown for your account and before you knew it your account was a disaster. Your meticulously sculpted trading plan now looked akin to a drawing by a one year old with a crayon. What happened?
Beginning to understand where your trading plan went wrong has to start with a question (or two or three) to help guide your analysis. When I began my own process of understanding why my trading failed in 2014 and 2015, I began with the question:
“What trading strategy is working best for me?”
This question allowed me to focus the analysis I was about to do on two years’ worth of trades. I could have easily picked another question focused on my return on investment or which trades were my worst. However, the overall purpose of my analysis was to find the few trade strategies that worked best and double down on them.
Though this question served me well, I could have done a little better with crafting it. In the next section, we’ll take a look at what makes a good question.
The elements of a good question
Many people who start to analyze their trading probably start with the question, “why is my trading not successful?” or some derivation thereof. Though this question is better than none, I don’t think it quite hits the mark on what I’d consider a good question. For our purposes there are two elements to making a good question.
The first element is specificity. If your question is broad and sweeping like the example above you’re going to waste a lot of time flailing around in your data looking for an answer. We want our question to provide us with a laser like focus to sift through our data. How do you know if your question is specific? You need to be able to identify exactly what it is you’re looking for. In the question I asked myself:
“What trading strategy is working best for me?”
I met a degree of specificity by looking for a particular trading strategy. In the other question:
“Why is my trading not successful?”
we’re not looking for a specific answer and in actuality we could have a variety of factors which contribute to our lack of success. If this was you, how would you go about fixing this question to make it more specific? Maybe we change it from a “why” question (which tend to have broad, open-ended responses) to a “what” question:
“What is my least successful trading strategy?”
Now we’ve flopped our question on its head. We can dig through our data with more purpose and focus solely on finding the weakest link in our trading strategy. Though we’ve fixed part of this question, there’s still another element to making a strong question, one my own question lacked.
The second element is your question has to be measurable. We want our question to help us not only focus on what data we need to collect, but it also needs to help us focus on which calculations to run against this data. Remember, I’m NOT A FAN of math but math is our friend when it comes to assisting with interpreting our trading data.
So, how could I have adjusted my personal question in my search for a “best strategy”? Maybe this would have helped a bit:
“What trading strategy is producing the highest expectancy?
Oh snap! Now that’s a sexy question!
We’ve now focused our analysis on a measurable calculation and made it specific to trading strategies. Now I know exactly what information I need to collect from my trading data to produce this answer. How would we change the other question? It would probably look something like this:
”What trading strategy produces the lowest expectancy?”
Or maybe this:
“What trading strategy produces the lowest win rate?”
Either of those questions would be great for focusing our data collection and giving us a great start on turning our trading around. Also, the reality is there’s probably more than just one question you’d like to answer when you’re analyzing your data. Or maybe your analysis drives you towards another question. Great! Build it out to be specific and measurable and get it answered!
I realize some of you may still have a hard time building a question for a variety of reasons. A lot of new options traders just don’t have the experience to know what question to ask. Or maybe you want to focus on finding your best trading strategy, but you don’t know enough about the available calculations to make your question measurable.
Have no fear! I’ve provided a list of questions below to help get you started with fixing a broken trading system. Not only is the question there, but I’ve provided a little explanation as well to help you understand what answering this question will do for you.
“What is my current trading system’s expectancy?”
This question will give you a broad answer on how much you can expect to earn, per trade following the current rules of your trading system. It’s generally a great place to start to determine the health of your trading system. It also provides a great point of comparison between two different systems.
“Which trading strategy is producing the highest/lowest expectancy?”
This question will really help you begin to separate the good, bad and the ugly in your trading system. By understanding which strategies are your most successful, you can focus on those and eliminate those hurting you the most.
“What is my average return on capital (ROC) per trade?”
Whoa…ok, I know this one sounds like a bunch of fancy “finance speak”, but stay with me. Figuring your average return on capital per trade can help you understand the efficiency of your trading system. For example, if your average ROC is 3% then you’re probably not being very efficient with your capital. This particular question also will help us assess if we’re getting paid enough for the risk we’re taking with our money.
“What is my average time in each trade?”
This is another question which can help you focus on the efficient use of your capital. If, for example, you risk $100 per trade, make $10 per trade but are in each trade for 100 days then you’re probably making around $30 a year. However, if you reduce your days per trade down to just 50, then you effectively double your annual return to $60 since you’re able to put your capital to use more frequently.
“What is my average risk/reward per trade?”
This is a question which can help us understand if we’re getting paid enough for the risk we take on in each trade. It’s a big difference if you risk $100 per trade and make $5 or $35. This question will be a starting point for further investigation on how we increase our reward or decrease our risk per trade.
Wrapping it up
I won’t even try to cover all the conceivable questions we could ask about our trading. I could go on for a bit on the types of questions we could ask and I wouldn’t cover them all. The most important part of asking a question is to actually ask the question. As I’ve said before, trying to do any analysis on your system without a question to guide you is akin to wandering in the dark without a flashlight. An imperfect question is better than none at all.
Now that you’ve got a question to guide you through the craziness of your trading journal we’ve got to collect the data to get that question answered. Using the five questions above as a guide, we’ll examine the typical types of data we’ll need to answer 90% of the questions you’ll have on your trading.
We’re well on our way to fixing or tweaking your trading system! I’d love to see what questions you want answered about your system. If you’re feeling brave, put your question in the comment section below. Or if you’re a little less sure about your question, shoot it to me in an email at firstname.lastname@example.org. I look forward to seeing your awesome questions!