Constructing the Best Investment/Trading Strategies Part 1 : It’s All About Planning

Planning is an integral part of life. Many of us spend a great deal of time on deciding where to holiday and how to celebrate a birthday etc. But what about the more fundamental aspects of our lives? Are we dedicating enough time to our health, education and careers? What about finances? Are we planning for a secure financial future, the essential element for the success of all our other plans?

Not surprisingly, few among us have considered or prepared a financial plan. Fewer still have given much thought to shaping a trading plan, a key component of sound financial planning.

The good news is that, although we might have overlooked the importance of a good investment plan, it is never too late to realise why it is necessary and begin planning for the future. With the backing of a good trading strategy and proper overall planning, the financial goals we have set for ourselves can be achieved in a sufficient amount of time.

So, how do we design a good investment plan?

What are the best steps we can take?

How do we construct the best trading strategies, particularly in the equities market?

The basic prerequisite for creating a winning trade plan is good mental preparation. In other words, you must possess the attitude to win and to stick by your plan to the end.

To win does not mean that you should expect the prices of all the equities you purchased to increase all the time. In fact, it is natural to have losses along with gains. Having the attitude to win is to temper and manage the expectations you set for yourself, to remain calm and emotionally detached from any stocks you have purchased or investments you have made. Yes, it is easy to remain unemotional about investments with your hard-earned money, but you must learn to treat your money as a empowering tool to build the pathway to your financial freedom, and not a highway to instant riches. This of course takes time.

Once you have discovered how to be at financial peace with yourself, dip into your assets, especially 'cash'. This cash does not mean your income or your monthly salary that is yet to arrive. Rather, this is the cash on hand, the money that you already have set aside for investment. This is because it may take anything from a few months to years to see good returns depending on market performance.

In addition to the money that you intend to invest, it would be prudent to set aside 6 to 12 months' worth of emergency funds. These funds are not assigned to your investment plan but are part of your 'risk management plan' as part of your financial plan; a protective measure against life's unexpected moments.

When your cash is ready, it is time to construct your trade plan.

What is a Trade Plan?

A trade plan (or a trading plan) is a systematic approach or method that identifies trading securities that tie in with factors such as time, risk and investor’s objective. The plan is like a roadmap on how to trade, when to trade, when to exit and more.

A trade plan is unique to each investor because it is customised and planned based on the investor’s personal profile. The number of years available for investing, marital status, lifestyle, debts, risk appetite, etc., need to be considered. Although it appears to be similar to a financial plan, a trade plan is different in that it is only a part of your financial plan.

Auto Trading Plan vs Active Trading Plan

If you have a busy lifestyle with little or no time to monitor your investments, an auto trading plan may work for you. In an automated trading plan, you buy the stocks and leave them to grow with minimum personal supervision. This means that your trade plan should include stocks that deliver returns in the mid to long run, like unit trust funds, REITs and exchange traded funds (ETFs). The other option is to engage a trusted/certified investment advisor or certified financial planner.

For those seeking returns or profits in a short period of time, a day or weekly trading plan could work, provided they understand market trends well and are willing to spend a great deal of time to study the market. Day trading involves the buying and selling of a investment/trading instrument within the same day. Do note that this plan does not suit individuals with low risk appetite profiles.

Crafting a Trade Plan

Putting together a good trade plan involves a number of details, including evaluating various elements prior to finalising the plan. You could think of it as a process similar to building a house – your financial house – where you need to know what you are doing and why you are doing it.

Personal Profile and Risk Profiling

Although writing down your personal details — age, marital status, occupation, etc. — is a simple task, the importance of this step cannot be underestimated. These basic elements greatly impact your investment/trade plan and make up the foundation of your future financial house. They help you to reflect on where you are now and where you want to be.

The second most important element is risk profiling. If you have a vast appetite for risk together with large investment capabilities, you can take on higher risks in trading by adding in derivatives. In equities, you can also venture into Initial Public Offerings (IPOs) or invest in companies which are listed on LEAP market.

Current Financial Position and Setting Your Goals

Taking stock of your own finances is an important step. Your financial capability decides how well you can position your money in the trading plan.

Think of your money as the cement that holds together the bricks of a financial house. The lesser the cement, the weaker the structure of the house, and the faster it will collapse if built recklessly. Your goals function as the bricks that build up the house. Whether you aspire to build a financial flat or a financial condo, the building takes shape through your goals. The more specific and well-crafted your goals are, the more refined and stronger your house will be.

Technical Strategies and Financial Statements

There are various strategies you can learn to enhance your trading knowledge. For example, you can learn how to analyse stocks by using technical analysis, such as candlestick analysis and trend-following trading strategy. You could also explore other stock investment strategies like growth investing, value investing and mutual fund investment.

Knowing more about financial ratios will also help you in decision making, especially when going through the financial statements of the companies you are interested in. Financial ratios that are important include net profit margin, return on equity, current ratio, gearing ratio, earnings per share, and price to earnings share. These strategies represent the tools that help you to decide where you want to build your financial house.

Setting Trading Restrictions

Self-discipline plays a strong part in your trading transactions. These include when to enter and exit, when to buy, sell or hold the stocks. They are like fire alarms in your financial house. They signal when you should cut loss or increase your investments. Using real numbers to set these restrictions (or limits or boundaries) helps to ensure that you do not rely on your emotions to purchase a stock that looks attractive before you do a proper analytical study on it.