You can trade only what you believe; therefore, your beliefs about price action must be at the core of your trading system. This will allow the trading system to reflect your personality, and you are more likely to succeed with such a system over the long run. If you hold many beliefs about price action, you can develop many systems, each reflecting one particular belief. As we will see later, trading multiple systems is one form of diversification that can reduce fluctuations in account equity.
The simplest way to understand your trading beliefs is to list them. Table 2.1 presents a brief checklist to help you get started.
You can expand the items in Table 2.1 to include many other items. For example, you can include beliefs about breakout systems, moving-average methods, or volatility systems. Your trading beliefs are also influenced by what you do. For example, you may be a market marker, with a very short term trading horizon. Or, you may be a proprietary trader for a big bank, trading currencies. You may wish to keep an eye on economic data as one ingredient in your decision process. As a former floor trader, you may like to read the commitment of traders report. Perhaps you were once a buyer of coffee beans for a major manufacturer, and you like to look at crop yield data as you trade coffee. The range of possible beliefs is as varied as individual traders.
You must ensure that your beliefs are consistent. For example, if you like fast action, you probably will not use weekly data, nor hold positions as long as necessary. Nor are you likely to use fundamental data in your analysis. Hence, a need for fast action is more consistent with day trading, and using cycles, patterns, and oscillators with intraday data. Similarly, if you like a trend-following approach, you are more likely to use daily and weekly data, hold positions for more than five days, trade a variable number of contracts, and trade a diversified portfolio. If you hold multiple beliefs, ensure that they are a consistent set and develop models that fit those beliefs. A set of consistent beliefs that can be used to build trading systems is listed below as an example.
1. I like to trade with the trend (5 to 50 days).
2. I like to trade with a system.
What Are Your Trading Beliefs? 13
3. I like to hold positions as long as necessary (1 to 100 days).
4. I like to trade a variable number of shares or contracts.
5. I like to use stop orders to control my risk.
Pare down your list to just your top five beliefs. You can review and update this list periodically. When you design trading systems, check that they reflect your five most strongly held beliefs. The next section presents other rules your system must also follow.
Table 2.1 A checklist of your trading beliefs
| Beliefs That Can Influence Your Trading Decisions | Yes,l Agree | No,l Disagree |
| 1 like to trade using fundamentals only. | a | a |
| 1 like to trade with technical analysis only. | a | a |
| 1 like to trade with the trend (you define time frame). | a | a |
| 1 like to trade against the trend (you define time frame). | a | a |
| 1 like to buy dips (you define time frame). | D | a |
| 1 like to sell rallies (you define time frame). | a | a |
| 1 like to hold positions as long as necessary (1 to 100 days). | a | a |
| I like to hold positions for a short time (1 to 5 days). | a | a |
| I like to trade intraday only, closing out all positions. | a | a |
| I like to trade a fixed number of shares or contracts. | a | a |
| I like to trade a variable number of shares or contracts. | a | a |
| I like to trade a small number of markets or stocks (1 to 5). | a | a |
| 1 like to trade a diversified portfolio (more than10 stocks or | a | a |
| markets). | ||
| 1 like to trade using cycles because 1 can anticipate changes. | a | a |
| 1 like to trade price patterns because 1 can react immediately. | a | a |
| 1 like to trade with price oscillators. | a | a |
| 1 like to read the opinions of others on the markets 1 trade. | a | a |
| 1 like to use only my own analysis of price action. | a | a |
| 1 like to use daily data in my analysis. | a | a |
| 1 like to use intraday data in my analysis. | a | a |
| 1 like to use weekly data in my analysis. | a | a |
| 1 like to trade with a system. | a | D |
| 1 like to use discretion, matching wits with the market. | a | a |
| 1 like lots of fast action in my trading. | a | a |
| 1 like to use stop orders to control my risk. | a | a |
| 1 like to trade with variable-length moving-average systems. | a | a |
14 Principles of Trading System Design