Author: Chris Hood
Profits in the market come from having an edge.
Most retail traders lack this and it explains why they lose so often.
But what exactly is an edge?
Loosely defined it’s anything that gives you a higher probability of winning than losing on your trades. Sometimes it’s referred to as a “positive expectancy system.”
That’s a mouthful – so I prefer edge.
Casinos have an edge.
The games are set up so that over time, with the proper number of games, they will always come out ahead.
People can win big, but for every winner, there are hundreds of losers.
And the guy who hit the jackpot will give it all back in time if he continues to play the slots.
Three factors contribute to your edge.
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First, is your method of trading.
This includes your set-ups, stops, profit-taking strategies, and psychological control.
Ask yourself, have you backtested these and do they have a high enough win rate and profit factor (win/loss) that you’re consistently making money? And do you have the mental strength to hold yourself accountable to these rules?
If the answer is no then there’s no edge.
There’s no holy grail here – the ultimate test is its profitability.
Second is the speed at which you trade.
I gain an advantage by trading uncommon time frames.
Remember, if you trade like the majority who lose money, you won’t make any.
Consider abandoning anything “standard.” Think about all the presets in your charting platform – daily, 4-hour, 1-hour, and 30-min charts.
They’re built in because most people use them.
Any time frame is tradable.
What about the 78 or 81, or 130-minute charts? Ever considered trading off a 2 or 3-day chart so that you aren’t just stuck with the daily or weekly?
These present patterns that others may not see.
This can be a critical part of your edge.
Finally, there’s the cost of your trades.
Proper risk management by position sizing and attention to the risk-reward ratio can help give you a winning plan.
For those who trade strategies such as credit spreads, ensure your win rate is high enough to offset any losses.
Credit spreads and iron condors are usually skewed so that your potential loss is greater than your max gain.
Be sure to cut your losses or adjust if the trade moves against you.
A full loser can wipe out the profits from numerous winning trades. What you gain in the probability of winning you pay for with additional risk.
Find the balance that keeps your P/L moving up.
Similarly, scale in and out of directional trades with calls and puts.
On strong set-ups don’t be afraid to risk more and on weaker ones either pass up the trade or size down.
Cut your profits early, and let your winners keep running with a trailing stop
Follow these three guidelines and you’ll be able to gain an edge.
Without an edge, you might as well play the slot machines.
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