In other articles, I’ve tested out two “off the shelf” trading systems with mixed results.  These are a quick way to start trading, but to have a system that reflects your own risk tolerance and goals, you need to build your own trading system.

Most people want their own trading system, but building one is often a mystery.  How do you build a system? This article is the first in a series about how to do just that.

If there is enough interest, future articles in the series will cover obtaining price data, types of systems, trading algorithms, backtesting the system and implementing the system.  Keep reading for the first article which will help identify your goals for your own system.

Step 1 - Identifying trading goals

To build a system that suits you, you firstly need to identify your goals.  These need to reflect any personal constraints on your trading.  You need to answer the following questions:

• What is my understanding of trading?
• What do I want to trade?  You can choose from futures, stocks, forex and options.  Do you want to trade particular stock segments (e.g. large cap stocks), or particular types of futures contracts (e.g. precious metals or grains)?
• How will I select the exact asset that I will trade?  This is hardest with the stock market because there are huge numbers of stocks traded.  The trading problem is primarily based around selection.  For futures and currencies, the selection is more limited, so it is not such an issue.
• How much money will I put into my trading account?
• What percentage drawdown will I accept?  For example, will you accept a 25% drawdown for a 50% profit?  If you look at a very bumpy equity curve, are you dismayed by the drawdowns, or are they acceptable in the context of a higher profit?
• Do I have the skills and time to design your own system?
• How often do I want to trade?
• How many different positions do I want to have open at any one time?
• How much time can I set aside for trading?  Are you available during the day, or just in the evenings?
• How much will I invest in trading software, price data and other materials?

Here are some answers that I will use for the system design that I will present in future articles:

• Understanding of trading - have read some material on trading and have knowledge of market concepts and trading mechanics.  Not a professional trader.
• What to trade - either forex or futures (including stock indices)
• What asset to trade - one selected currency or futures contract only.  No need to include an algorithm to select the contract or stock to trade.
• How much money will I put in my account - $5,000.  I will trade with only $1,000 of this, with the rest as a reserve.
• Percentage drawdown - will aim for a conservative system with a smooth equity curve.  Will aim to maximise Sharpe ratio.
• Skills and time for system development - have some basic Excel skills.  Not a statistician or programmer.
• Trading frequency - trade a few times a week, aiming for intermediate to long term trends (not day trading).  Using end of day data.
• Positions open at once - only one.
• Time available - 15 minutes in the evening
• Trading investment - have a PC and Internet connection.  Do not own Tradestation or specialised software.  Have access to Excel.  Able to download free historical data for testing and end of day data during actual trading.  Prepared to purchase some specialised data or low cost software as appropriate.

These assumptions are based around the skill levels of most people who are interested in starting trading.  Hopefully they are realistic for you.  If not, you can change the system accordingly.

So, we’ll look at a system that uses end of day data.  Your trading will be limited to checking the numbers at the end of the day and buying or selling one contract or position.  The system will be conservative and longer term in nature.  Your system will be spreadsheet based.

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Tags: Building systems, Trading Systems

This entry was posted on Wednesday, April 23rd, 2008 at 12:52 pm and is filed under Trading Systems. You can follow any responses to this entry through the RSS 2.0 feed. You can skip to the end and leave a response. Pinging is currently not allowed.