How to develop your "own" trading setup

If you are highly motivated to make millions trading stocks then you need to develop your own setups. Buying picks from others or subscribing to newsletters is not going to make you money because you will never get as good an entry or exit as those broadcasting picks. Also you are not going to be having conviction in the setup.

Your best bet is to develop your own setups based on known setup ideas that work. Soone you start that work better will be your trading career.

Let us say you are a highly motivated new trader and read several books, blogs and have found some things that works. The next critical step is to put together a complete working method and extract millions out of the market using those methods while controlling risk.

Developing setup is stepwise process and involves iterations. Master that process and you will be able to afford anything you set your eyes on from your trading profits.Once you master that you can put together several systems or variations of the setups. Once you understand the steps involved you can create your own system based on what a market wizard says in an interview or any other idea you come across.

Many time Stockbee members or readers of this blog or traders I know share their trading setups and I study them to understand the basic design behind them. Go through several setups shared by members and you will understand how to put together your own approach. Many of these methods have unique tweak on entries , or exits or on selecting stocks. For example the bid back method is very clever swing trading method in terms of entry tactics by placing buy stops next day. Or if you look at @mysterytrader method it has very unique way to select stocks to trade . His way of selecting stocks increases odds of his trading setup working so well and that is why he was able to make that kind of money so quickly. 

If you study all the methods shared here and shared by others they all have common parts  like entries, exits, entry set ups, exit set ups etc. 

• Vehicle Selection deals with which stocks to trade. This is very important decision and unless you have strategy for selection your other variables do not matter. 
• Entries Selection deals with conditions that will trigger an entry
• Exits Selection deals with where you will exit the trade.
• Stops selection methods deals with how to put stops and move the stops.
• Risk strategies deal with size of your positions, total number of open positions, use of margin and market direction filters. 

Think of these as lego blocks. Your task is to assemble them together in a functional coherent unit and make it work. In order to do this successfully in the beginning build your setup around someone elses setup that way you will have a template to deal with. Then modify it over time.  

Vehicle selection

We need some valid way to select the universe of stocks we would be trading. We want to select the most profitable markets to trade. Because market is dynamic, we want to do this process dynamically as against using a static framework.

There are many ways to do these. Professional traders use dynamic vehicle selection strategies based on momentum , volatility, range contraction or range expansion.

Investors use attribute based model to select stocks. Value investors look for attributes like p/e, cash flow, book value, discount cash flow. Based on these attributes they select the stocks to invest in. Growth investors select vehicle based on earnings , sales, or margin growth or combination of factor. Momentum investors select vehicles based on momentum or lack of momentum. 

You can choose vehicles based on attributes like market cap, size, trading volume, price, fund ownership, insider buying, year of IPO, country of origin, sector, short interest and so on.

Many of these attributes have been studied to death in last 50 years . There are many books published on these every year and most of the well known attributes that work are no secret. 

We should only select attributes for vehicle selection which will give us most profitable opportunities. 

There are potentially thousands of ways to select vehicles. Now this step is very critical because if we select more profitable markets to trade with then, we increase our probability of being profitable. 

Vehicle selection is also a function of time scale you want to trade. If you are day traders, the attributes you would look for in a vehicle will be a combination of high trading volume, clear direction, large intraday range and enough volatility to make potential trading profits worth the risk and expense of trading. Or it can be stock with immediate news likely to lead to volatile moves during the day.

Entry Selection

Selecting right vehicle is just one part of the equation. If you select right vehicle and enter it at wrong time you will have losses. 
Once we select vehicle we select entry method. What kind of entry we want to make on this vehicle. Breakout, pullback, scaled, timed , etc are some of the entry choices we have.

Some traders use breakout based entries. They buy based on breakout of N days. Breakout based entries are very popular and there are hundreds of tactical variations of these used by traders and investors.

Some use non breakout methods like pullbacks to enter. Again several hundred variations of this are used by traders. 

Entry-stop= risk. Closer is your entry to stop better it is and it will help lower your risk significantly. Look for entry methods that reduce your initial risk substantially. 

Again you can put together hundred way to enter a stock but the objective should be clear, to enter a properly selected vehicle at the start of a potentially profitable stage. 

Exit Selection

If you select right vehicle and right entry , your job is not over. You need to exit it at right time to be profitable. 

Exit strategy has multiple considerations. 

Your first exit is based on entry setup failure. This helps us protect our trading capital in event of the failure of entry signal. 

Our second exit is based on meeting our intended profit objective or at level where the trade has achieved its objective.

There is a false belief among many traders that exit is most important part of trading.

Exits are also dependent on your trading time frame and style. A day trader by very definition enters and exits a position in a day. Swing traders enter at start of swing and exit at end of swing. Trend traders exit on trend change. Value investors exit on valuation reaching their objective. Growth investors exit at first sign of growth slowdown or at peak growth.

As a general observation, I have found that professional traders tend to exit into strength while ordinary investors exit on weakness and often are way late on exits. 

Stops

Stops is important part of your trading mix and is used to enter, exit or manage risk.

Entry based on stops can help us enter a position at predetermined level  . The anticipation setup or bid back method does this.. Same way exits based on stops can help you exit at predetermined levels or at certain profit levels.

Stops allow us to control risk by avoiding catastrophic losses.

Risk selection

Once you have the above four elements of trading mix together, then you add risk selection to the mix. 

Risk selection strategies are designed to manage risk of capital loss, to avoid catastrophic losses, to manage open position risk, to increase returns by use of leverage, or to decrease volatility of returns. 

Your risk strategy determines how much you will risk per position. How many total positions you will have. What setup conditions will lead to you risking higher amounts or reducing risk. 

Your risk strategy will determine how much margin to use. For higher gains margin helps. That is why I use portfolio margin which gives me significant buying power. 

For exactly same vehicle , entry and exit one trader can make 5 to 10 times more profit on the trade if he risks bigger amount. 

All these elements of trading mix are equally important and needs to be looked at in totality. When all elements are properly put together, you have a working profitable trading system. The process is iterative and testing and back testing, and trading them in real time over years can help you fine tune each element of the mix.

Most of the effort in such designing is one time and after that you need to fine tune it from time to time. If you understand this process you can develop your own profitable method based on many widely known setup ideas. 

This is how most traders develop their trading methods. In the beginning they base their method based on someone else's ideas , but as they do more trading , they tinker around with several of the variables in vehicle selection , entries, exits, risk and in the process develop their own unique style. 

If you are serious about making money trading develop your "own' setups and this site has several tools to help you do that.