Constructing the Best Investment/Trading Strategies The Winning Trade Plan Part 2: The Three R's - Research, Review, Returns

Asset Allocation

Before you add a stock to your portfolio, you must research what value it will add to your position and your trade plan. This guards against unnecessary risk and allow you to further diversify your risk when allocating assets. The simplest way to measure the potential benefit of adding a new asset to your plan is by looking at the correlation and the correlation coefficient.

Correlation is derived from the Modern Portfolio Theory (MPT) that demonstrates how to construct a portfolio and maximize the expected returns based on market risk. Correlation coefficient helps to determine the relationship between two stocks. The three important types of relationships are:

1. Positive Correlation Coefficient – this means that two stocks are moving in the same direction
2. Negative Correlation Coefficient – this means that two stocks are moving in different directions
3. Zero Correlation Coefficient – this means that two stocks do not affect one another
    

From the relationship types, it is clear that a negative correlation coefficient will be a better choice to diversify and reduce the volatility of two stocks. Whenever you intend to add a stock to your portfolio, you can use this method determine whether or not the stock is a good addition.

Returns & Timeline

When constructing the trade plan, you must prepare a reasonable expected return and a timeline, to not disappoint yourself. If the return you expect is realistic, your plan will stay on track and cause you no disappointment or psychological anxiety. Studying and understanding what kind of returns are likely on your investment will help you set realistic targets for your expectations on returns and timelines.

General Effects and Consequences

In the largely volatile world of trading, unexpected outcomes are quite usual. It is quite likely that some of your trading decisions will impact your financial outcome in the long run. However, although gains and losses are expected occurrences, it is well within your control to choose the right stock to trade at the right time. Just as purchasing the right stock at the right time might quicken the pace of your income, a wrong choice could lead to losses that might delay or set back the goal you set in your planning book. This makes it crucial to have, in the same book, a practical recovery method to rely on, should your trading plan take an unexpected turn for the worse.

Risk Percentage

This risk management guideline specifies, as a percentage, the maximum risk you should take. It is defined as a potential loss on a trade and should not exceed the amount that was set earlier. The larger the trading account, the lower the risk-per-trade should be. A risk percentage of 2% is a broad recommendation and should be lowered as the trading account grows in size.

DIY vs Professional Services

A DIY or do-it-yourself plan brings with it full control over what you do with your money. However, it also simultaneously brings greater risk if you are not totally familiar with trading and the whims of the market. If encounter blind spots or feel lost even after a couple of DIY attempts at trading, engaging professional services might be a good option to kickstart your plan.

You could even show your DIY plan to professionals and seek their expert advice and recommendations, after which you can alter or completely rework your plan. Depending on your preferences, these professional services could be one-off or ongoing services.

Trading Journal

Maintaining a journal on your trading journey will help you to keep track of the strategies you have attempted and the outcomes. It serves as a personal database and allows you to see how your investment progresses. A journal is also useful to spot trends in trading and the mistakes you may have done in the past.

Sticking to the Plan

Once you have put together a proper trade plan, it is important that you stay close to the objectives and strategies you have defined, instead of chasing quick profits.

As mentioned earlier, it is necessary to stay emotionally detached when it comes to decision making. Stick to your plan and review it annually to see if it is doing better or worse than you expected and whether it is leading you to your planned financial destination.

Winning in a Crisis

A frequently asked question is: when a crisis hits the economy, how do I ensure that I continue to earn profits or dividends? The answer to this question lies in diversification. A diversified portfolio or a well-planned diversification strategy is likely to reduce the risk of losses although it will not guarantee a certain win. br/> Market logic states that all investment is subject to some level of risk. In finance, the term 'systematic risk' explains this turn of events. Diversification cannot eliminate all risk even if asset allocation is perfectly maximized. Studying the market frequently, and at regular intervals, may provide tactics that you can use to curb losses or ride the profit wagon in a time of crisis.

The COVID-19 pandemic is a strong example. Investors who saw the potential in the mounting demand for rubber gloves profited enormously by adding rubber-related assets to their portfolios. A winning trade plan makes room for strategies that lead you to study the direction in which markets are headed so that you can turn any crisis to your advantage.

What’s Next?

Constructing a winning trade plan takes a generous amount of time and a great deal of effort. Those who win are those willing to be flexible during the investment journey while keeping their sights fixed on long-term results. 
As adjustments and amendments may be required, you must be open to change and not be overly rigid about accepting strategic and tactical modifications to your plan. Although there are no perfect trading strategies that you can adopt, there is yet a best strategy, which is one that you customize for yourself based on study, research and careful observation.