Lesson 10 – What Is a Trading System?

The trading system is all of the trading tools and rules chosen by a trader. A trading system is usually tested using historical data to ensure that it can potentially be profitable if the trader follows the system rules. Using a trading system, it is easier to work because the system has been thoroughly planned and tested, much like a business plan.

In addition, a trading system is unique because its rules cannot be misunderstood. It needs to be based on logic and rules that are based on market behavior. In terms of the rigidity of the trading system, the psychological risks as described in lesson 9 are significantly diminished because the system can take care of these aspects for you.

Professional traders almost always work in agreement with their trading systems (or, more commonly, strategies) that they customize to fit their profile—aggressiveness, time frame, unique strategy elements, etc.

It is necessary to understand that each trading system is unique—they have their own pluses and minuses. Some trading systems are designed to work in a particular time frame—for example, to trade during the day (increase the amount of trade signals; however, this requires that a trader sits next to the computer for a long time). Others are designed to work in a higher time frame (fewer signals and the trader is not forced to be at the computer for long periods at a time).

Which system to use depends on your preferences.

In addition, it’s worth mentioning that not all trading systems work with all currency pairs. While a system can be profitable trading EUR/USD, it may be unprofitable with other currency pairs because each currency pair has some specific characteristics.

Creating your trading system, you must decide not only what currency pairs you want to trade but also with which movements (i.e., which trends) your system should work. Of course, you can combine different movements; however, you must remember that traditional trend systems can work very poorly in a “flat” situation, and “flat” systems may not work well when a strong trend appears. To avoid such mistakes, you should understand for which movements the system is designed—where it is going to work best.

Another important factor is the trading system’s relation to MM (see Lesson 8 for more information about MM). The most important criteria are the favorable ratio between profit and loss. A profit should be at least 1:1 or two to three times higher than the Stop-Loss.

Please note that there is no universal trading system in the world that would work equally well in all Forex situation or would guarantee no losses—unfortunately the Holy Grail does not exist (even though newcomers are searching for it). Therefore, if you see ads on the Internet that offer trading systems with magical indicators, or EA (robots) that promise magical profits and no losses, then immediately leave the website and never return.

Beware that 99% of commercial Forex products do not work on real accounts and can lead to losses instead of profits.

An example of a simple trading system

Let’s have a look at a simple trading system.

Please note that this is only an example—it is in no way the only and right way to earn money. In addition, if you wish to use this trading system, please practice using a demo account.

Trading system characteristic:

Platform: MetaTrader 4
Currency Pair: GBPUSD
Timeframe: H1

Trading Time: European and American sessions
Recommended Broker: Roboforex, FX Choice

Trading instruments and how to install them:

SMA89 (89 Day Simple Moving Averages). In Metatrader4, go to Insert>Indicators>Trend>Moving Average and set the value to 89. Choose Blue color and press OK.
SMA21 (21 Day Simple Moving Averages). In Metatrader4, go to Insert>Indicators>Trend>Moving Average and set the value to 21. Choose Red color and press OK.
Stochastic Oscillator (24:5:3 with 20 and 80 levels). In Metatrader4, go to Insert>Indicators>Oscillators>Stochastic Oscillator and press OK.

Trading rules:

We open a sell or buy trade where a faster SMA21 crosses a slower SMA 89 after the Stochastic indicator signal.
The Stochastic signal occurs when the indicator moves out from an overbought (80) or oversold (20) zone.
The Stop-Loss order is placed below/above the closest minimum/maximum.
The Take-Profit order is placed two times higher than the Stop-Loss.
When the price changing to our advantage and reaches our Stop-Loss distance, we move a Stop-Loss order to the Break-Even point.

Below are some trading examples: