How Do You Develop An Edge In Trading
You NEED an edge. By now all traders should know, to trade profitably, you need to exploit an edge in the market. An edge to me, is nothing more than something which you can use or do, to gain more than 51% probability of being profitable in the market, assuming a 1 to 1 risk reward relationship.
Finding your edge is the most important task at the start of your trading career. Edges come in many forms.
For example, if you’re doing equities, then stock selection is going to be one of your edges if you do it right.
If you’re doing very short term trading, perhaps identifying very short term pricing inefficiencies will be your edge.
But most commonly, some form of identifying whether the market is more likely to go up or go down.
So for this article, I’ll just talk about finding an edge from a technical standpoint. I won’t go into using the tape or arbitraging or having a faster infrastructure than the next guy, those are discussions for another day.
Finding an edge is not enough. You need to find an edge that fits your circumstances. Be it your risk appetite, patience levels, or simply perspective of the charts. Your edge will have to integrate with you as a person, so that you’ll be able to follow your trading framework.
At the end of the day, your P&L is still a function of your hit rate and risk/reward. Your hit rate is your success rate of getting a profitable trade. Your risk/reward determines what the average risk is to gain your average reward.
So how do you go about finding this edge?
#1 What’s Your Personality Like?
The first step is going around the block. It’s like buying office shoes for the first time in your life. You need to know what kind of office shoes are out there. Before deciding which one is suitable for your work place, your budget and if you like how the shoes look. That might not be the best analogy, but you get the idea.
One of the first things you need to know, is what kind of person are you? What’s your personality like?
There are many types of personality tests online which you can take, but first do a bit of research into how they might relate to traders. DISC test has some articles on how they relate to the type of trading that each personality trait is suitable for.
Determine as well, what kind of time commitment do you want to allocate to trading each day or each week. It will certainly have a huge impact on the style of trading you choose.
#2 Identify A Strategy
So then, on to the key bit, how do you identify a strategy with a trading edge?
As a new trader, go around the block a few times first. Read about a few different styles of trading online. How wonderful it is to have the internet now, 10 years ago you couldn’t get this much information online, and it’s all fairly well categorized now to!
Envision the kind of trader you’d like to become, it should be something which ties in with the kind of lifestyle you want. Identify a few which suit your preferences for trading.
As an example, I didn’t do this when I first started my trading journey.
Eventually I found myself trading London hours, which includes evenings here in Singapore. When I was young and single, evenings didn’t mean that much to me. Eventually I realized evenings are quite precious to spend time with your partner or family or friends.
So I had to shift my focus instead to the London open, as well as depend on algos to help me trade so that I could have evenings free. No regrets however, because every step of the journey was mine =)
But to make things smoother for yourself, do give some thought to what you’re trying to achieve. It will help you get to where you want to be more quickly.
Now, at this point, you don’t need to dig too deep to find advanced strategies just yet. Just know that you will improve yourself and evolve your methodologies as your trading career progresses. Use simple strategies first, just to get a feel for that style of trading and see if it suits your preferences.
#3 Determine Your Risk Management
Now after you’ve found your strategy, look to your risk management. What kind of risk are you comfortable with taking?
Some styles require an inverse risk/reward with a very high hit rate. Others are the complete opposite, insisting on a higher risk/reward while having a low hit rate. A few try to find a balance.
#4 Trade Mangement
As a new trader, my advice would be to keep trade management to a minimum. Unless you’re aiming to be a scalper. It’s difficult mentally to keep objective in the face of emotions, but if you can, good for you.
Trade management means things like early exits or flipping position biases on a dime. It’s a whole can of worms which you don’t want to have to deal with at the start of your journey. This is because trade management is generally supposed to be a performance optimizer.
That means for it to work, there has to be performance in the first place. Trade management can help with both trading psychology as well as maximize your trade opportunities. However it’s a double edged sword, because if done incorrectly, it would negatively affect your trading.
#5 Interact With Experienced Traders
One last tip, try to interact with successful experienced traders, hear what they consider to be important to them in the markets. It’s unlikely that they will tell you exactly what their edge is. Even if they wanted to, most of them won’t be able to share it coherently in its entirety with you. So you’ll just have to pick up the clues yourself and then do the leg work 😉 Happy hunting!
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