How to make a trading plan?

All trading plans are personal and unique, so there's no set formula for creating the perfect plan. However, most should address the following in some capacity:

Motivation

Why do you want to become a trader? Is it for the money, for the excitement, or simply to learn more about how the financial markets work? Whatever it is, it's a good idea to write it down because your motivation is an essential part of who you are as a trader.

Time commitment

Before you get down to the real business of trading, it's sensible to work out how much time you can commit to it. Individuals looking to make a large number of trades per day, for example, will need to dedicate a lot more time to trading than, say, investors looking to buy assets that will appreciate over several years.

It's also important to spend enough time preparing yourself for trading, which includes education, practising your strategies and analysing the markets.

Trading goals

Once you've written down your motivation for trading and the amount of time you're willing to commit, you can start defining your trading goals. These goals shouldn't simply be grand statements about how you're going to buy a big house or a yacht with your winnings. To be effective, trading goals need to be Specific, Measurable, Attainable, Relevant and Time-bound. In short, they need to be SMART:

Attitude to risk

Market prices are always changing and even the safest financial instruments carry some degree of risk. An investment that seems like an exciting opportunity to one person may feel dangerous and stressful to another. So before you start trading it's important to work out how much risk you're prepared to take on, both for each individual trade and over your trading strategy as a whole.

Your attitude to risk usually goes hand-in-hand with your trading goals. For example, a trader looking to make 100% returns every year might be happy to take on increased risk to achieve the objective. While a more conservative investor might only want to risk a small amount of investment capital to realise 10% yearly growth.

Trading capital

It's now time to get serious and look at money. Specifically your money and how much of it you can afford to dedicate to trading. This is your trading capital.

It should go without saying, but it's vital that you don't risk more than you can afford to lose.

While no one trades to lose money, you need to be aware that some traders do end up losing their entire trading capital and sometimes a lot more besides. You always need to make sure you can afford the maximum potential loss on every trade, so do the maths every time you open a position. And if you don't have enough at the moment, practise trading on a demo account until you do.

Markets to trade

With so many markets available, how do you choose which one to start with?

Research is an essential part of trading, so it makes sense to begin by looking at the markets you have a particular interest in. If you like to keep up with technology trends or retail companies for example, then trading on stocks in these industries is likely to come more naturally than speculating on commodities such as corn or cattle.

It's also crucial to look at the following:

• Trading times – when is the market open?
• Volatility – on average, how many points does this market move in an hour/day/week?
• Position/contract size – how much will you gain or lose for every point of movement in the price?

If these factors don't fit with how you want to trade, or your attitude to risk, then pick another market.

Once you've made your decision, it's important to stay focused. The more you understand about your market and why the price moves, the more likely you'll be able to predict future movements with accuracy.

Record keeping

For a trading plan to work it needs to be backed up by a trading diary.

This is where you record everything that happens during a trade, including why you entered it, the expected profit and maximum risk, the entry point, exit point and how the market behaved during the trade. You should also record how you felt before, during and after the trade, as this will help you keep your discipline and avoid making decisions based on emotion.

If, for example, you closed a trade early because you were afraid the market was going to turn – write that down. Did the market continue in your favour to reach your target level, or did it move against you as you thought? Record why you decided to deviate from your plan. Did your emotions get the better of you, or does your plan need revision?

Record keeping also enables you to see how you're performing over a period of time:

• Are you generally profitable or are you losing money?
• What's your win percentage?
• When you win, is it usually by more or less than when you lose?
• Are particular markets/times of day/trade setups more profitable than others?

Keeping track of these statistics will enable you to become a better trader and help you on the way to achieving your goals.