Most successful traders use a ‘mechanical’ trading system. This is no coincidence.
A good mechanical trading system automates the entire “decision-making process” of trading. Having a “mechanical” system does not mean it’s an automated software program or anything like that.
What it simply means is that the system provides answers in advance for every decision a trader must make while trading.
A mechanical system makes it easier for a trader to trade consistently because there is a clear, pre-defined set of rules.
And these rules specifically define exactly what should be done under all circumstances.
Put another way, the mechanics of trading are not left up to the judgment of the trader.
A mechanical trading system executed correctly will exclude the undue influences of emotion, which can hinder the performance of many traders.
Human emotion is one of the most complex and hard to control areas of trading. No trader or investor has been able to conquer the market without first controlling their emotions.
The key, of course, is to know you’re using a system of rules that stacks the odds in your favor by giving you the opportunity to make money over the long run.
That makes it much easier to take signals and trade according to the system during periods of losses.
In contrast, if you’re forced to rely on your own judgment during trading, you may find that you are fearful just when you should be greedy, and greedy when you should be fearful.
If you have a mechanical trading system that works -- and you follow it consistently -- emotions are removed from the decision-making process.
Despite the inner emotional struggles that might come from a long series of losses, or an incredibly large profit, you’ll be consistent, confident and disciplined.
In fact, the confidence, consistency, and discipline you have when using a thoroughly tested mechanical system are the keys to many of the most profitable traders’ success.
The 6 Key Components of any Complete Trading System:
Any fully developed and thoroughly tested mechanical trading system covers each of the decisions required for successful trading in advance:
1. Markets -- what to buy or sell
The first decision is what to buy or sell, or essentially, which markets to trade. With most mechanical trading system you discover how to set alerts in any market you choose. These alerts act like a ”trigger”, so you’ll know when it’s the right time to take action.
If, for example, you just invest in American markets, you’ll discover how to set a “trigger” when the S & P 500 crosses a certain point. Most importantly, by following these rules you’ll know in advance exactly what to do when that trigger goes off!
2. Position Sizing -- How much to buy or sell
How much to buy or sell is the single most important -- yet least understood -- aspect of trading. Most beginning traders risk far too much on each trade, and greatly increase their chances of going bust, even if they have an otherwise valid trading strategy.
With mechanical trading systems you’ll have the formula to determine, in advance, what percentage of tradeable assets to put into every trade.
3. Entries -- When to buy or sell
The decision of when to buy or sell is often called the “entry decision.” Like all good “mechanical” systems, you learn how to generate entry signals, which define the exact price and market conditions to enter the market, in advance.
4. Stops -- When to get out of a losing position
Traders who don’t cut their losses will not be successful in the long term. As you’ll learn with mechanical trading system, the most important thing about cutting your losses is to predefine in advance the point where you’ll get out, before you even enter the position.
5. Exits -- When to get out of a winning position
Many “trading systems” that are sold as complete trading systems don’t address the exit strategy of winning positions. Yet the question of when to get out of a winning position is crucial to the profitability of the system. Therefore, pick a mechanical trading system where you can learn how to set pre-defined triggers so you’ll know, in advance, when to sell a winner.
6. Tactics -- How to buy or sell
Once an alert has been generated, where and how you execute the trade becomes important, especially when dealing with large amounts of money. With most mechanical trading systems you discover tactics for trading thinly traded stocks, options, ADR’s, or any investment that requires special care.