“Longevity is the key to success.” – Ed Seykota, Market Wizard


“You should expect the unexpected in this business; expect the extreme. Don’t think in terms of boundaries that limit what the market might do. If there is any lesson I have learned in the nearly twenty years that I’ve been in this business, it is that the unexpected and the impossible happen every now and then.” – Richard Dennis, Market Wizard

If you don’t have effective business systems in place to support your trading, you will find it more difficult to generate a meaningful amount of wealth from the market.

You might get a few pips here and there, but without a proper infrastructure in place you will hit a road block when you get to a certain level, or worse you will suffer a large loss on the profits you have taken so long to accumulate.

It pays to be prepared before that happens.

In this lesson, we go into the systems you will need to have in place to trade Forex with confidence and at size:

  • Risk management
  • Trade assessment and execution
  • Recording and monitoring your performance
  • Trading strategy evaluation
  • Contingency planning

By adding these elements to your trading plan, you are entering the realm of the professional. These are the tools that hedge funds use to run their trading business. Indeed this lesson has been put together with the help of a friend of mine who runs one such fund.

Trading is a business not a hobby

“I’ve always viewed trading as a business.” – Victor Sperandeo, Market Wizard

For the trader that is serious about making money, trading is not an interesting hobby, filled with chart gazing and reading news; it is a business.  This means lots of hard work implementing the trading business systems they need for success – just like if they were starting a business in any other industry.

These systems should be written in a business plan. It does not have to be a stuffy plan. It should be one that is a pleasure to work with, but make sure you write it down.

 Your First Job as a Trader is to Manage Risk

“Risk control is the most important thing in trading” – Paul Tudor Jones


“You are not a trader, you are a risk manager.” – Larry Benedict

The first systems you need to build into your training business plan are risk management systems. It is through these systems that you protect your trading account from damaging losses from:

  • Poor trading
  • A fault with your trading system or
  • A fault with your position-sizing model, or
  • A run of losses due to market conditions.

Your position-sizing strategy is also an important part of your risk management. Position sizing is the “how much to place on each trade” aspect of trading. Here we discuss account-wide rules to be implemented along with your position-sizing model.

Maximum loss in a day/week/month

If you experience a loss on your account that reaches a certain level, you will need to take action to limit further losses. This could be to stop trading altogether, or it could be to reduce your position-sizing. Depending on your trading style, this could be a maximum loss in a day, a week or a month.

For example, Market Wizard Michael Platt allows traders in his fund a 3% maximum loss per year. If they lose 3% then they have their allocation cut in half. If they then lose a further 3% of the reduced allocation, they are out of a job.

Maximum number of trades at any one time

The more positions you have on at any one time, the more difficult they become to manage. If your positions are correlated, you can essentially end up with one big position instead of several smaller ones. You will want to decide how many trades you will have on at one time, and how many correlated positions you will allow yourself to take.

You may want to limit yourself to a maximum of 8 trades, though 4 or 5 could be a more manageable number.

Maximum leverage on the account

Even if you have very few trades, if you are scaling in you could end up exposed to a very large position. One way of protecting yourself from this risk is to limit the maximum amount of leverage you will have on the account. For example you could set a maximum leverage of 10:1. This maximum leverage could either be set physically on your account by your broker, or you will need to calculate it yourself as you place trades.

Assessing trades

When find an opportunity to place a trade, you want to have a system for assessing if it is the right trade for you. This is not meant to be a time consuming investigation, but rather a quick check to see whether the trade fits you, like a hedge fund manager would do with their trading team.

In a hedge fund the positions and trades are combined to express an overall picture of the fund’s view, and they are carefully considered re: weightings and what synthetic cross-positions are created by introducing another position. While you don’t have to go this far, and can treat the trades as individual non-correlated trade ideas, you generally will want to quickly consider the following factors.


Check if the trade has a risk/reward ratio that you desire. Preferably the risk reward would be greater than 2:1, but 1:1 can be okay for shorter-term trades. For longer-term trades you might want a minimum of 3:1.


Check if the trade matches your trading horizon. If you are predominately a short-term trader, you might not want to place trades that are long-term or vice versa.


“I…designed a lot of risk management systems [and] I paid strict attention to the correlations of all my positions.” – Bruce Kovner


“Controlling Correlations is the key to managing risk.” – Michael Platt

Check your current positions for correlations. If the new trade is correlated with your current positions you may wish not to take it. For example: if you are already short the EUR/USD and you get a recommendation to short the EUR/AUD, you may decide not take it, to avoid holding too big a position short in the EUR.

Hedging and Synthetic positions

If you have current trades, then a trade could act as a hedge to your current positions, or effectively create a synthetic position that you did not intend to have. For example: if you are long USD/JPY and take a short EUR/JPY position, then in effect you have a short EUR/USD position.

Position sizing model

When you get to place a trade, you will need to decide what position-sizing model you will use on the trade. For example, you may use different position-sizing rules for short-term and long-term trades.

Separate accounts for separate strategies

One of the keys to successful trading is simplicity. Using different trading strategies in one account can be a major source of trading mistakes.

If possible, set up separate trading accounts for each strategy. This does not mean separate accounts for each type of entry signal you have, as one strategy can have many. Rather, if you have two completely different sets of rules, then try and operate each of them in different account.

This will help with the analysis and evaluation of the strategy, as well as help you stay disciplined, since there will be no hiding of a losing strategy behind a winning one.

Use multiple brokers

It is preferable that you use different brokers for each account, rather than having several accounts with the same broker. This will protect you from counter-party risk, i.e. your broker going bust (It’s all too common unfortunately).

Recording and monitoring trades

When asked if they record their trades, the majority of amateur traders say no. When a professional is asked if they record their trades, then the answer is invariably yes.

Spot the difference?

If you don’t record your trades, it’s hard to know what you are doing right or wrong, so it’s hard to make meaningful changes to your trading strategy.

Luckily, recording trades can be partially automated by services such as Tradervue.

Tradervue is preferred, as it allows you to record R-multiples and will calculate the quality of the system using Van Tharp’s System Quality Number (SQN) method. It also has journaling functions.

It’s critical you don’t neglect this part of your business planning, as over the long-term it is what will generate success for you.

Imagine this:

  1. You place 20 trades and record your results
  2. You work out what worked, and what didn’t, and make changes to your plan
  3. Place another 20 trades
  4. Rinse and repeat

By following this process of eliminating mistakes and testing, you eventually get your trading to a point where it is profitable.

Trading strategy evaluation

“We test our criteria to make sure they are timeless and universal.” – Ray Dalio, Market Wizard

Trading strategy evaluation is a critical facet of managing your trading like a business. Not only does it help you improve, but it guides your position sizing. The better the trading system you have, the more you can risk on each trade. When you are evaluating your system, you will want to:

  • Check that you have clear objectives and a matching positon-sizing algorithm
  • Check that the strategy meets the objectives of the trading system plan
  • Be able to understand:
    • Each part of the strategy
    • Why it works
    • Its edges
    • Under what conditions it works and does not work
  • Understand what the underlying beliefs of the strategy are
  • How the strategy performs in six primary market types
  • Van Tharp’s SQN for each market type
  • Make sure that strategy includes rules that totally guide behavior, including how much discretion to use
  • What psychological issues are arising when trading the system

This process of evaluation should be done on a regular basis. It is also good to check the SQN of your system over a rolling 30-day basis, in order to spot any degradation in the performance of your system before it’s too late.

Avoiding System death

“The strategy is always changing. It is a research war.” – Michael Platt


“Strategies that have been based on the manager’s most recent experience will work until they invariably don’t work.” – Ray Dalio

System death.

Forex trading strategies stop working. Edges disappear. Market conditions change.

The trader is left hanging, hopes unfulfilled.

But disaster can be avoided. You don’t need to experience system death, if you know how to tell if a system has stopped working before you lose money.

Understanding how to avoid system death has other benefits. If you have a pre-defined process for when you will stop trading a strategy, it gives you confidence. As Marty Schwartz, Wall Street’s champion day trader, said:

“Confidence is essential to a successful trader.”

You can trade with confidence and discipline, trusting in your rules to protect you, instead of worrying about if what you are doing has a limited shelf-life.

Why trading strategies stop working

The number one reason strategies stop working is that they are optimised to work in a particular market type. When the market type changes, the system stops working. This could solve a lot of your trading problems.

Other reasons Forex trading strategies stop working include:

  • The strategy is poorly designed. For example, it is curve-fitted to historical data and is not robust enough to survive live trading.
  • The edge disappears. The reason for the system working no longer exists.
  • Trader mistakes. The trader is unable to trade the strategy efficiently, and it performs below expectations.
  • Position-sizing errors. The system may have an edge, but position-sizing errors cause it to underperform.

Plan for your strategy to stop working

It’s ok for a forex strategy to stop working. If you could have a high-performing strategy that makes a 100% return, but it only lasted for 3 months, would you use it? Strategies that work and then stop are not a bad thing. The bad thing is to continue to trade them, not knowing that their time has come. Here are some ways to plan for your strategy to stop working:

  • Trade multiple systems. Don’t keep all your eggs in one basket. Have at least two different strategies at any one time (preferably for different market types).  
  • Position sizing. In your position-sizing rules, make sure you cater for the “worst case scenario”. In particular, protect your core capital.
  • Don’t become emotionally tied to your strategy. Sometimes, when the idea is yours, it can be difficult to let go. Don’t get your sense of self-worth wound up in your strategy’s performance.

More importantly, you want to have a benchmark of your strategy’s performance. Once you see a deviation from this benchmark, you can go into “high alert mode” and monitor your strategy closely to see if its performance recovers or simply stop trading the strategy altogether.

A methodical approach to managing system death

Avoiding system death is simpler than you may think, though it can be a bit of work:

  1. Track your strategy’s performance to create a benchmark.
  2. Notice when the strategy performs outside of expectations.

Note that you don’t need to wait until you are losing money to stop trading a strategy. Instead you can simply reduce your trade size as performance degrades. Here is a specific method for achieving this: Benchmark your performance by placing 30 trades with a consistent small position size (like 0.5% of your account). Work out your trading strategy’s expectancy. Create a table to rank your system’s expectancy. For example:

Excellent Expectancy above 1.5
Very Good Expectancy between 0.6 – 1.5
Good Expectancy between 0.2 – 0.5
Break-Even Expectancy between -0.1 – 0.1
Poor Expectancy below -0.1

As you continue to trade, track your expectancy over the rolling last 30 trades.

If your expectancy ever goes down a rating, you have a few options:

  1. Reduce your trade size.
  2. Allocate less of your trading capital to that strategy.
  3. Stop trading the strategy.

You will need to fit this approach to your own trading methods

For example, your benchmark for excellence may be having an expectancy above 1 instead of 1.5. You need to base it on your own system’s results. So long as the method achieves its goal of protecting you from system death, the details don’t matter that much.

Let’s look at this in action.

You have benchmarked your performance and your trading strategy currently has an expectancy of 1.5.

As you trade, you notice that your expectancy over the last 30 trades has gone down to 0.9. When this happens you continue to trade, but cut your position size in half.

You also do a review to check where the fault lies. Perhaps it is simply market conditions are not so suitable, or you are making a mistake that you did not notice.

You continue to trade at a reduced position size and your expectancy drops down to 0.2. It is now dramatically different from the expected performance and you decide to stop trading it all together for now.

You have now avoided system death without losing any money in the process. Nice!

An alternative method of monitoring your system performance

Another method traders use to avoid system death is to monitor each strategy’s equity curve.

As the equity curve flattens or starts to go down, you would allocate less trading capital to that strategy; as the equity curve turns up, you would allocate more capital to that strategy.

Depending on your strategy, you might find this method more useful than the one above.

Contingency Planning

 “My mental rehearsal for a catastrophic event is to picture a doctor in a triage situation. He’s in a battlefield emergency operating room. In come 50 bodies. Some are going to live, some are going to die. The doctor has been trained to handle the situation. He’s going to make all the necessary decision… he is calm and collected, not nervous.” – Tom Basso, Market Wizard

When you are trading small sizes, contingency planning is not so important. But the more you develop your trading, and the larger sizes you trade, the more relevant it becomes.

There are many horror stories of traders who have had an unexpected event interrupt their trading, and wipe out years’ worth of profits. Even if not that dramatic, unexpected events can cause a large loss in the blink of an eye.

The contingency planning of major hedge funds is as in-depth as the strategic planning in a modern military organisation. That is, it is extremely thorough.

Market Wizard Tom Basso plans how to run his entire hedge fund off a laptop and mobile phone for example. He then conducts “dry runs” where he tests out his systems in the case of a disaster affecting his business.

There is a story about Basso, that when a fellow trader called him he hung up the phone, saying that he was busy and needed to keep the line free as a hurricane had hit. The trader had not heard about a hurricane, and when he checked the weather it turned out the weather was perfectly clear, and the Basso was conducting a dry run of his contingency plans!

Here is a list of contingencies you will need to plan for if you want to trade at a reasonable size. Some responses to the situation are also listed, though you will need to make them your own.

Things that impact traders personally

Sickness or death in the family, or with close friends: Stop trading for 24 hours. Assess whether trading should resume or be put on hold.

Emergency with the family comes up when trading: Close all positions. Assess whether trading should resume or be put on hold.

Things that affect your environment

There is noise in your environment that affects you: Put on a headset or ear muffs. If it is consistent, then consider moving to another environment.

Events related to your broker

Your broker accidentally gets your account balance wrong: Contact the broker and inform them. Work with them until the correct balance is restored.

Your broker has an outage: Check social media for information. Contact the broker by phone, chat or social media if required.

Your broker has an outage that lasts for greater than 24 hours: Move trading to a backup broker. Contact the broker and conduct a review.

Your broker has an outage during a major news event, or with a position that does not have a stop-loss: Place a hedging position with another broker. Contact the broker by phone, chat or on social media.

Problems or disasters with equipment

The charting platform goes down: Switch to a different platform (traders should have a number of platforms on their computer).

The computer goes down: Switch to back-up computer or mobile platform. Contact another trader or friend and use their computer.

Laws and regulatory disasters, which are good for the government but bad for the trading strategy

Margin requirements are changed: Assess impact on trading system. Consider moving to a different regulatory environment, or adjusting the trading system. If required, reduce position-sizing in the meantime

Market disasters

Unscheduled major news occurs when in a position: Assess whether the news has a 20% or greater chance to cause a loss of more than 1R. If so then close the position. Otherwise monitor closely.

Trading system disasters

The system performs outside of expectations: Reduce position size to 10% of original size. Shift trading to a back-up system.

Psychological problems

You trade with below 90% efficiency: Stop trading for 24 hours. Talk to a fellow trader to discuss and assess next steps.

You become unhappy: Stop trading for 24 hours. Talk to a fellow trader to discuss and assess next steps.

Environment disasters

Earthquake, flood, hurricane, or other disaster that affects the environment that the trader is operating in: Stop trading for 24 hours after the event occurs. Advise clients. Contact the trading manager. Assess potential for power to return and if it is safe to remain in the environment. If it is not safe to remain in the environment, then move with equipment and family to a safe location. Once safe, if there is internet access, then steps can be taken to continue trading.

Get serious and start planning

Take a look at your conduct in the market, and decide if you are treating trading like a hobby or a business.

(Hint: If you are doing the things in this lesson, then you are treating trading like a business, if you are not then you are likely treating it like a hobby.)

If you are not giving trading the gravitas that it deserves, then stop and assess what you need to change.

Start by writing down your risk management rules, and sticking to them.

As time goes on, revisit this lesson and start working on your monitoring and recording systems, before moving on to contingency planning.

If you do these things you are creating the systems that will form the lifeblood of your trading, and you will be able to support the growth of your trading account to a large size – without any big hiccups along the way.

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