You may wonder why it is necessary to keep a separate trading journal, since just about every broker provides a real-time record of your trades. In fact, one could argue that the broker's record also keeps track of available buying power, margin usage and profit and losses for each trade made. Still, there are benefits to keeping a separate trading journal, and here is why. (The line between profitable forex trading and ending up in the red may be as simple as choosing the right account. Check out Forex Basics: Setting Up An Account.)
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1. Historical Record
Over a period of time, the journal will provide a historical perspective. Not only will it summarize all your trades, but it will provide, at a glance, the state of your trading account showing each individual trade and the accumulated effects of all your trades to date. In other words, it becomes your personal performance data base, which will provide you with the opportunity to go back in time and determine how often you traded, how successful each trade was, which currency pairs performed better for you and even what time frames gave up the best profit percentages. Depending how analytical you want to be, you will be able to glean a great deal of information from your recording efforts.
2. Planning Tool
Not only should a good trade journal record your actual trade data, but it should also provide information on what your plans are for each trade. This feature allows you to consider each trade before you take it by setting parameters for where you want to enter, how much risk you can accept on the trade, where your profit target will be set and how you will manage the trade as it proceeds. In other words the journal becomes a way for you to record your thoughts in actual numbers, and makes it possible to convert wishful thinking into practical reality. It forms the basis of a method for planning your trade, and then trading your plan.
3. Methodology Verification
Another very important by-product of a trading journal is the fact that, over time, it will verify your methodology. You will be able to see just how well your system performs in changing market conditions. It will answer questions like: How did my system perform in a trending market, a range bound market, different time frames and the impact of your trading decisions such as placing stop loss orders, too tight or too loose? In order to retain the full details for the logic behind a particular methodology, the trading journal must be fully comprehensive.
4. Mind Pattern Modification (Method to Change Habits)
One of the most useful features of your journal will be the concrete help it provides in forcing you to change your habits from destructive to constructive. As you learn how to trade your plan, you will develop a greater level of confidence. Your profitable trades won't feel so random, and your losses will be "planned for," and therefore won't ding your psyche in a way that will make you feel that a loss means you are a loser. A very important mental and emotional factor in trading is your level of confidence. Confidence is the antidote for the fear and greed cycle in which many traders will get caught. Fear and greed is a natural, hardwired response in most humans. If you are winning, you want to win more; if you are losing, you feel fear and even panic as your account dwindles towards zero.
Having a journal that gathers your statistics sets up a trading plan by defining parameters of action needed, provides a rear view mirror so that you can measure how well you executed each trade, and most importantly provides you with the feedback to develop and evolve your trading skills, is an extremely valuable tool for becoming successful. You will find a good trading journal to be a best friend and mentor as you make progress. (Market hours for Tokyo, London and New York determine volatility peaks. Find out how, in The Forex Three-Session System.)
The Two-Part Journal
It is recommended to set up a trade journal that accomplishes two main concepts:
- A chronological columnar list of trades that you can total and aggregate, so that you can have a record of all your efforts. This is best accomplished by hand writing in the columns all the pertinent data. Of course, you can keep records using an Excel spreadsheet that can automatically do the math for you, and which will remove simple calculation errors. This depends on your own abilities in spreadsheet modeling.
- A printout of the actual chart you used to determine the trade, indicating your entry level, your stop loss level and your potential profit level, should be clearly marked up on the chart. In addition, you should record your reasons for taking the trade. Keep a section on the chart where you can indicate the following:
- Fundamental Reasons (Example) "I believe the dollar will continue to weaken, due to the Fed's long term policy of keeping interest rates lower than trading partners and maintaining a high trade deficit."
- Technical Reasons (Example) "The dollar has retraced back to a resistance level that provides an opportunity to sell the dollar."
- Sentimental Reasons or Market Psychology (Example) "Traders are reducing their appetite for risk based on the extended run in commodities and the potential for a correction, as well as the lackluster performance of the U.S. economy, as measured by the weakening GDP data and the poor job creation numbers."
Note your comments on the actual printout or screen capture of your chart. Finally, you should set up a journal for each type of trading methodology or system you employ. Do not mix systems, as the results of your trades will derive from too many variables and will then be inconclusive. Therefore, if you have more than one trading system or methodology, you should keep a journal for each one.
Every trade you record should be based on only one particular system, which will then give you the ability after 20 trades or so to calculate the expectancy or reliability of your system.
Here again is the expectancy formula:
E= [1+ (W/L)] x P – 1 W = Average Winning Trade L = Average Losing Trade P = Percentage Win Ratio Example:If you made 10 trades, and six of them were winning trades, four losing, your percentage win ratio would be 6/10, or 60%. If your six trades made $2,400, then your average win would be $2,400/6 = $400. If your losses were $1,200, then your average loss would be $1,200/4 = $300. Apply these results to the formula and you get: E= [1+ (400/300)] x 0.6 - 1 = 0.40 or 40%. A positive 40% expectancy means that your system will return you an additional 40 cents over every dollar in the long term.
Once you know your system's expectancy, you can act with confidence. Confidence is the key to execution. If you lack confidence you will not be able to execute your trades according to your plans and you will either second guess yourself or become paralyzed from too much analysis of data coming in from the market. Make a trading journal your first trading habit. It will become the key to all your good trades in the future. (Find out how this tool magnifies both gains and losses. Check out Forex Leverage: A Double-Edged Sword.)