A consistent and decisive method for entering the market can be achieved by defining precise trade entry rules. Many traders may find themselves naturally too conservative or aggressive when it comes to entering a trade. Those who are too conservative may end up sitting on the sidelines while waiting for multiple levels of confirmation, a practice which commonly leads to missing trades altogether.
Conversely, aggressive traders may jump at any chance to get in the market, sometimes with no valid reason other than the desire to trade. This, of course, frequently leads to losing trades. All traders, whether conservative, aggressive or somewhere in the middle, can benefit from using trade triggers and trade filters to establish decisive trade entries. Trade Filters Trade filters identify the setup conditions that precede a trade entry, and therefore must occur before the trade trigger.
Trade filters can be thought of as the "safety" for the trade trigger. Once all of the conditions for the trade filters have been met, the safety is off and the trade trigger becomes active. Trade filters may include a variety of factors, ranging from time of day to location of price.
For example, the trade filters for the chart in Figure 1 include:. All of these trade filter conditions become true on the 9: Trade filters define the ideal market conditions for the trade trigger.
These filters are often established through observation and backtesting. For example, a trader may have developed a trading system that performs well in the mornings but has unsatisfactory performance in the afternoons. The trader could then use a time filter to limit trade entries to a specific period of time; in this case, between 9: With an appropriate filter, you can ride the waters to rising profits.
An important consideration in choosing trade filters is to not limit the "degrees of freedom" in a trading plan. In other words, too many filters may create a statistically improbable trading setup that would rarely, if ever, be true.
This greatly limits the ability for a trading plan to be robust, consistent and profitable. This is the situation where the overly-conservative trader finds himself: Find entry or exit signals or develop a complete system based on this versatile tool. One reason why traders might over-filter a trading plan is because they attempt to eliminate all losing trades after performing historical backtesting. Backtesting refers to testing a trading plan or idea on historical data to determine if the idea could be profitable in real-life trading.
While backtesting is a valuable tool for developing profitable systems, it can be misused, especially in the case of determining ways to avoid every or most losing trades. This is a form of curve fitting, which manipulates the trading conditions to perform the best on historical data, while creating an unrealistic system that performs poorly in real life.
When defining trade filters, traders should strive to create filters that are beneficial to the system as a whole - and not to a specific trade or two.
Once trading filter conditions have been met, traders watch for the trading trigger to occur to initiate a trade entry. Figure 2 shows this basic progression. Trade Triggers Trade triggers can be thought of as the line in the sand that defines exactly when a trade will be entered. Unlike trade filters that can include a variety of factors, trade triggers tell a trader exactly when to act.
Trade triggers should be absolutely objective and clearly defined in the trading plan. There should be no room for ambiguity. For instance, "go long when the moving averages cross" could be further defined with "after all trade filters have been met, enter a long position once price is one tick above the previous bar's high.
All of the trade filters would need to already be true in order for the trade trigger to go into effect. In Figure 1, we see the line in the sand is drawn once all of the trade filters have been fulfilled: The trigger, then, is activated once the trade filters become true.
The trigger occurs when price reaches one tick above the 9: Price does reach this trigger, so a long trade would be initiated at the specified price. The exact order type would depend on the trader. A system trader, for example, may place a stop order to buy to pinpoint the exact price in the trade entry. A discretionary trader, on the other hand, may place a market order to get in the trade at the best available price.
Trade triggers can be based on a variety of conditions, from indicator values to the crossing of a price threshold, such as a support or resistance level. Many traders use technical analysis tools, such as indicators, to define high probability setups in the market.
Indicators can provide an objective trade entry since precise thresholds can be easily established. Examples include occurrences such as "enter a long position when a 5,3 stochastic reaches a level of 30"; or, "enter a short position when average true range reaches a level of 0.
Filters would provide the setup for these trades; the indicator levels would provide the trigger. Understanding this key concept can drastically improve your short-term investing strategy. An important aspect of trade triggers is that they need to be simple in order to be actionable. Too many trade triggers, or overly-complicated triggers, can become burdensome and make the system difficult to implement. This can also lead to frequent trading errors as traders become confused about their own system.
Trade triggers are like a company's mission statement: Triggers should be objective and readily recognizable so that there can be no question about whether or not the trigger has been met.
The Bottom Line Trade filters allow traders to define conditions that are favorable for entering market positions.
These trade filters provide the setup. Trade triggers are the line in the sand - the threshold that, once met, "triggers" the trading opportunity.
Understanding how to use both trade filters and trade triggers can help traders find and define profitable trading setups. Dictionary Term Of The Day. A conflict of interest inherent in any relationship where one party is expected to Broker Reviews Find the best broker for your trading or investing needs See Reviews. Sophisticated content for financial advisors around investment strategies, industry trends, and advisor education.
A celebration of the most influential advisors and their contributions to critical conversations on finance. Become a day trader. For example, the trade filters for the chart in Figure 1 include: Time is between 9: Source - TraderStation An important consideration in choosing trade filters is to not limit the "degrees of freedom" in a trading plan.
Figure 2 - This "timeline" shows the progression of trade filters, triggers and entries. Trade filters must first be fulfilled, and then a trade trigger provides the precise opportunity for a trade entry. Source - TraderStation Trade Triggers Trade triggers can be thought of as the line in the sand that defines exactly when a trade will be entered.
A conflict of interest inherent in any relationship where one party is expected to act in another's best interests. Passive investing is an investment strategy that limits buying and selling actions. Passive investors will purchase investments How much a fixed asset is worth at the end of its lease, or at the end of its useful life.
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