6 Steps to a Rule-Based Forex Trading System

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6 Steps to a Rule-Based Forex Trading System

A trading system consists of more than simply a rule or collection of rules for when to join and leave a deal. It is a thorough method that considers six critical aspects, not the least of which is your own personality. This article will discuss the general method to developing a rule-based trading system.

Step 1: Examine Your Mindset

Understand who you are: When trading the markets, your first goal should be to examine yourself and take note of your own personality qualities. Examine your skills and limitations, then consider how you would respond if you saw an opportunity or if your position was endangered. This is often referred to as a personal SWOT analysis. But don’t deceive yourself. If you’re not sure how you’d react, seek the advice of someone who knows you well.

Adjust your personality to your trading style: Make sure you are acquainted with the trading situations you may encounter in various time periods. For example, if you have concluded that you do not enjoy going to bed with open positions in a market that is trading while you sleep, you may want to explore day trading so that you may close out your positions before going to bed. You must, however, be the kind of person who enjoys the adrenaline rush of continually checking the computer throughout the day. Do you love being confined to your computer? Do you have an addicted or obsessive personality? Will you obsess about your postures and become terrified to go to the restroom in case you miss a tick? If you are unsure, go back and re-evaluate your personality. If your trading style does not fit your personality, you will not love what you are doing and will rapidly lose interest in trading.

Prepare yourself: Plan your deal so you can execute it. Preparation is a mental run through of your future transactions, similar to a dress rehearsal. By preparing your deal ahead of time, you establish the ground rules as well as your restrictions. If you know what you’re looking for and how you intend to react if the market performs what you expect, you’ll be able to remain objective and avoid the fear/greed cycle.

Maintain objectivity: Avoid being emotionally invested in your deal. It makes no difference whether you are correct or incorrect. What counts is that “you earn more money when you are right than you lose when you are wrong,” as George Soros puts it. Trading is not about ego, however it may be uncomfortable for most of us when we design a move, apply our whole logical skill, and then discover that the market does not agree. It is a question of conditioning yourself to realize that not every transaction will be profitable, and that you must take tiny losses graciously and go on to the next deal.

Be disciplined: This involves knowing when to purchase and when to sell. Stick to your pre-planned approach while making choices. Sometimes you will exit a position only to discover that it reverses and would have been lucrative if you had stayed in it. However, this is the foundation of a really harmful habit. Don’t disregard your stop losses—you may always re-enter a trade. It will be more comforting to stop trading and accept a minor loss than to begin hoping that your significant loss will be recouped when the market recovers. This would be similar to trading your ego rather than trading the market.

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Be patient: Patience is a virtue when it comes to trading. Learn to wait until the market reaches the point where you have drawn your line in the sand. What have you lost if it does not reach your entrance point? There will always be opportunities to profit another day.

Have reasonable expectations: This implies you won’t lose sight of reality and expect to transform $1,000 into $1 million in ten deals. What is a reasonable expectation? Consider what some of the world’s finest fund managers are capable of achieving—perhaps 20%-50% every year. Most of them accomplish much less and are highly compensated for it. Expect a reasonable rate of return on a constant basis; if you can accomplish a growth rate of 20% or higher every year, you will be able to surpass many professional fund managers.

Step 2: Identify Your Mission and Set Your Goals

If you don’t know where you’re heading in life, any route will get you there. In terms of investing, this means sitting down with your calculator to figure out what type of returns you need to meet your financial objectives.

Next, you must begin to comprehend how much you need to make in a transaction and how often you will need to trade in order to attain your objectives. Don’t forget to account for lost deals. This may make you realize that your trading strategy is at odds with your objectives. As a result, it is vital to match your methods to your objectives. If you trade in typical 100,000 lot increments, the average value of a pip is roughly $10. So, how many pips can you anticipate earning each trade? Add up the winners and losers from your previous 20 deals to calculate your winnings. This may be used to predict the results from your existing technique. Once you have this knowledge, you can determine whether or not you can attain your objectives and whether or not you are being reasonable.

Step 3: Ensure You Have Enough Money

Currency is the fuel required to begin trading, and trading will be restricted if you do not have enough cash. But, more importantly, cash acts as a hedge against losing transactions. Without a cushion, you will not be able to sustain a brief downturn or give your position adequate breathing room when the market fluctuates with new trends.

Cash cannot come from sources that you need for other critical events in your life, such as your college savings plan for your children. Cash in trading accounts is considered “risk” money. This money, also known as risk capital, is an amount that you can afford to lose without compromising your lifestyle. Consider exchanging money in the same way you would vacation savings. You understand that money will be spent after the trip is done, and you are OK with it. Trading is fraught with danger. Treating your trading capital as vacation money does not imply that you are not concerned about capital protection; rather, it means mentally liberating yourself from the fear of losing so that you can actually execute the trades required to build your capital. Perform a personal SWOT analysis once again to ensure that the appropriate trading positions do not conflict with your personality profile.

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Step 4: Select a Market That Trades Harmoniously

Choose a currency pair and experiment with it over various time intervals. Begin with weekly charts and work your way down to daily, four-hour, two-hour, one-hour, 30-minute, 10-minute, and five-minute charts. Determine if the market often flips at important places, such as Fibonacci levels, trendlines, or moving averages. This will give you an idea of how the currency trades in various time intervals.

Set up support and resistance levels in various time periods to determine whether any of them cluster together. The price at 127 Fibonacci extension on the weekly time frame, for example, may also be the price at 1.618 extension on the daily time frame. Such a cluster would bolster support or resistance at that price point.

Rep with several currencies until you discover the currency combination that you believe is the most predictable for your technique.

Remember that trading requires passion. The constant testing of your settings necessitates that you like what you do. With enough determination, you will learn to effectively assess the market.

Once you’ve decided on a currency pair, begin reading about it in the news and on social media. Determine if the fundamentals support what you assume the chart is telling you. For example, if gold rises, it is likely to benefit the Australian dollar, since gold is a commodity that is typically positively connected with the Australian dollar. If you believe gold will fall, wait for the right period on the chart to short the Aussie. Look for a line of resistance to be the right line in the sand before making the transaction to gain timing confirmation.

Step 5: Test Your Methodology for Positive Results

This is perhaps what most traders consider to be the most crucial aspect of trading: a system that only enters and exits lucrative transactions. Never, ever lose. If such a technique existed, it would make a trader wealthy beyond their wildest dreams. But, in reality, there is no such system. There are excellent, better, and even extremely ordinary approaches that can all be employed to produce money. The performance of a trading system is determined by the trader rather than the system. A skilled driver can get to their location in almost any vehicle, while an inexperienced driver is unlikely to make there, regardless of how amazing or quick the automobile is.

Having stated that, it is vital to choose a technique and test it several times in various time frames and marketplaces in order to determine its success rate. A system is often just a good predictor of market direction 55%-60% of the time, but with adequate risk management, a trader may still earn a lot of money with such a system.

Personally, I prefer a method with the greatest return to risk, which means that I seek for turning points at support and resistance levels since they are the simplest areas to detect and measure risk. Support is not always strong enough to halt a falling market, and resistance is not always strong enough to reverse a price increase. However, a strategy may be created around the principles of support and resistance to provide a trader with the necessary advantage.

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Once your system has been created, it is critical to assess its expectation or dependability under different situations and time periods. It may be used to timing entrance and exit in the markets if it has a positive expectation (it makes more successful trades than losing ones).

Step 6: Measure Your Risk-to-Reward Ratios and Set Your Limits

The first line in the sand to draw is the point at which you would abandon your position if the market turned against you. This is where your stop loss will be placed.

Determine how many pips your stop is distant from your entry point. If you place your stop 20 pips away from the entry position and trade a regular lot, each pip is worth around $10. (if the U.S. dollar is your quote currency).If you trade in foreign currencies, use a pip calculator to quickly determine the value of a pip.

Calculate the proportion of your trading capital that your stop loss would be. For instance, if you have $1,000 on your trading account, 2% is $20. Make sure your stop loss is less than $20 from your entrance point. If 20 pips equals $200, you are using too much leverage for your current trading capital. To get around this, drop your trade size from a conventional lot to a mini-lot. One pip in a mini-lot is equivalent to around $1. To keep your 2% risk-to-capital ratio, your maximum loss should be $20, which needs you to trade just one mini-lot.

Now, on your chart, add a line where you wish to take profit. Make certain that this is at least 40 pip distant from your entrance point. This results in a profit-to-loss ratio of 2:1. Because you don’t know whether the market will reach this level, be sure to slide your stop to break even as soon as the market goes past your entry point. At worst, you will scratch your transaction and keep your whole money.

Don’t give up if you are knocked out on your first try. Often, your second entry will be right. True, “the second mouse gets the cheese.” Often, if you are buying, the market may bounce off your support, or retreat from your resistance, and you will join the trade to test that level to see whether the market will trade back to your support or resistance. Profits may then be made the second time around.


You’ll have the skills to choose an ideal currency pair if you combine psychology, fundamentals, a trading approach, and risk management. All that remains is to continuously practice trading until the method becomes embedded in your mind. You may become a successful trader if you have the enthusiasm and drive.

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