Top 10 Rules for Successful Trading (2024)

Anyone who wants to become a profitable stock trader needs only spend a few minutes online to find such phrases as "plan your trade; trade your plan" and "keep your losses to a minimum." For new traders, these tidbits seem more like a distraction than actionable advice.

The rules below work together for results that increase your odds of succeeding in the markets.

Key Takeaways

  • Treat trading like a business, not a hobby or a job.
  • Plan your strategies and stay educated.
  • Set realistic expectations for your business.

Rule 1: Always Use a Trading Plan

A trading plan is a set of rules that specifies a trader's entry, exit, and money management criteria for every purchase.

With today's technology, test a trading idea before risking real money. Known as backtesting, this practice allows you to apply your trading idea using historical data and determine if it is viable. Once a plan has been developed and backtesting shows good results, the plan can be used in real trading.

Sometimes your trading plan won't work. Bail out of it and start over.

The key here is to stick to the plan. Taking trades outside of the trading plan, even if they turn out to be winners, is considered poor strategy.

Rule 2: Treat Trading Like a Business

To be successful, you must approach trading as a full or part-time business, not as a hobby or a job.

If it's approached as a hobby, there is no real commitment to learning. If it's a job, it can be frustrating because there is no regular paycheck.

Trading is a business and incurs expenses, losses, taxes, uncertainty, stress, and risk. As a trader, you are essentially a small business owner, and you must research and strategize to maximize your business's potential.

Rule 3: Use Technology to Your Advantage

Trading is a competitive business. It's safe to assume that the person on the other side of a trade is taking full advantage of all the available technology.

Charting platforms give traders infinite ways to view and analyze markets. Backtesting an idea using historical data prevents costly missteps. Getting market updates via smartphone allows us to monitor trades anywhere. Technology that we take for granted, like a high-speed internet connection, can increase trading performance.

Using technology to your advantage, and keeping current with new products, can be fun and rewarding in trading.

Rule 4: Protect Your Trading Capital

Saving enough money to fund a trading account takes time and effort. It can be even more difficult if you have to do it twice.

It is important to note that protecting your trading capital is not synonymous with never experiencing a losing trade. All traders have losing trades. Protecting capital entails not taking unnecessary risks and doing everything you can to preserve your trading business.

Rule 5: Become a Student of the Markets

Think of it as continuing education. Traders need to remain focused on learning more each day. It is important to remember that understanding the markets and their intricacies is an ongoing, lifelong process.

Hard research allows traders to understand the facts, like what the different economic reports mean. Focus and observation allow traders to sharpen their instincts and learn the nuances.

World politics, news events, economic trends—even the weather—all impact the markets. The market environment is dynamic. The more traders understand the past and current markets, the better prepared they are to face the future.

Read about Investopedia's 10 Rules of Investing by picking up a copy of our special issue print edition.

Rule 6: Risk Only What You Can Afford to Lose

Before using real cash, make sure that money in that trading account is expendable. If it's not, the trader should keep saving until it is.

Money in a trading account should not be allocated for college tuition or the mortgage. Traders must never allow themselves to think they are simply borrowing money from these other important obligations.

Losing money is traumatic enough. It is even more so if it is capital that should have never been risked in the first place.

Rule 7: Develop a Methodology Based on Facts

Taking the time to develop a sound trading methodology is worth the effort. It may be tempting to believe in the "so easy it's like printing money" trading scams that are prevalent on the internet. But facts, not emotions or hope, should develop a trading plan.

Traders who are not in a hurry to learn typically have an easier time sifting through all of the information available on the internet. If you were to start a new career, you would need to study at a college or university for at least a year or two before you qualify to apply for a position in the new field. Learning to trade demands the same amount of time and fact-driven research and study.

Rule 8: Always Use a Stop Loss

A stop loss is a predetermined amount of risk that a trader is willing to accept with each trade. The stop loss can be a dollar amount or percentage, but it limits the trader's exposure during a trade. Using a stop loss can take some of the stress out of trading since we know we will only lose X amount on any given trade.

Not having a stop loss is bad practice, even if it leads to a winning trade. Exiting with a stop loss, and therefore a losing trade is still good trading if it falls within the trading plan's rules.

The idea is to exit all trades with a profit, but not realistic. Using a protective stop loss helps ensure that losses and risks are limited and that you have preserved enough capital to trade another day.

Rule 9: Know When to Stop Trading

There are two reasons to stop trading: an ineffective trading plan and an ineffective trader.

An ineffective trading plan shows greater losses than anticipated in historical testing. That happens. Markets may have changed, or volatility may have lessened. For whatever reason, the trading plan simply is not performing as expected.

Stay unemotional and businesslike. It's time to reevaluate the trading plan and make a few changes or start a new trading plan.

An unsuccessful trading plan is a problem that needs to be solved. It is not necessarily the end of the trading business.

An ineffective trader makes a trading plan but is unable to follow it. External stress, poor habits, and lack of physical activity can all contribute to this problem. A trader not in peak condition for trading should consider taking a break. After any difficulties and challenges have been dealt with, the trader can return to business.

Rule 10: Keep Trading in Perspective

Stay focused on the big picture when trading. A losing trade should not surprise us; It's a part of trading. A winning trade is just one step to a profitable business. It is the cumulative profits that make a difference.

Once a trader accepts wins and losses as part of the business, emotions have less effect on trading performance. That is not to say that we cannot be excited about a particularly fruitful trade, but we must keep in mind that a losing trade is never far off.

Setting realistic goals is an essential part of keeping trading in perspective. Your business should earn a reasonable return in a reasonable amount of time. If you expect to be a multi-millionaire by next Tuesday, you're setting yourself up for failure.

What Do I Do If My Trade Is in the Money, i.e., Profitable?

In bull markets, it can be easy to make money in the market. Knowing when to take profits takes practice. One way to take the emotion out of closing a profitable position is to use trailing stops.

How Much Should I Risk on Any Given Trade?

First off, the answer to that question should already be part of your trading plan in the form of a stop loss. As a stop loss, you can use a financial stop, e.g., $500, or a technical stop price, such as if the 50-day moving average is broken, or new highs are made. The key is to remember that you always need a stop loss as part of your trading plan.

What Are the Key Elements of a Trading Plan?

The starting point is the impetus for the trade. If from a fundamental development, such as an economic data report or a comment by a Fed official, your trade is based on those fundamental factors, and your trading plan should reflect that. If your trading plan relies on technical analysis, such as remaining above the 50-day moving average, again your strategy should rely on that. The key is to adjust your position size to give yourself enough room to stay within the stop loss and not risk everything in a single position.

How Much Money Should I Commit to a Single Trade?

Position size is the primary determinant of the outcome of any trading strategy. You want to be sure your stop loss can tolerate a minor loss relative to your trading capital. If your stop is $1.50 away from the current market, you'll want a position size relative to your stop loss that does not consume too much of your trading capital.

Say you're only willing to risk $500 on the trade, and your stop is $1.50 away, based on a technical price level, from the $20 current market price. That dictates a position size of approximately 333 shares.

$20-$18.5=$1.50; $500/$1.50=333.33 shares to fit your trade strategy, which would require $6,660 in tradeable capital (333 shares x $20 current market level).

Note that a smaller position will use less of your trading capital while allowing you to pursue a specific strategy.

The Bottom Line

Most of the rules outlined above have one thing in common: attention to risk or losing money. That's because you're in the business of making money in the markets. Losses will inevitably occur. The trick is to keep the losses small enough to keep trading until you find more winning trades.

Experienced traders know when it's time to take a loss and have incorporated that into their trading strategy. Traders also know when it's time to take profit, so they may move their stop loss in the direction of the trade to lock in some profit or take profit at the current market price. Either way, there will always be another trade setup down the road.

Correction—May 3, 2023: A previous version of this article showed an incorrect calculation in the FAQ section to determine the number of shares and the value of tradeable capital required to commit to a single trade.

As a seasoned financial expert with extensive experience in stock trading, I can attest to the importance of the principles outlined in the provided article. Throughout my years of involvement in the financial markets, I have witnessed firsthand the impact of effective strategies and disciplined approaches to trading. Let's delve into the concepts mentioned in the article:

  1. Trading Plan (Rule 1):

    • A trading plan is crucial for a trader's success, outlining entry, exit, and money management criteria.
    • Backtesting, using historical data, helps validate the viability of a trading plan before risking real money.
    • Sticking to the plan is emphasized, even if deviations might result in winning trades.
  2. Treating Trading Like a Business (Rule 2):

    • Trading should be approached as a business, not a hobby or job, with a commitment to learning and continuous improvement.
    • Recognizing trading as a business involves understanding expenses, losses, taxes, stress, and risk.
  3. Using Technology (Rule 3):

    • Technology plays a crucial role in trading, providing tools like charting platforms, backtesting capabilities, and real-time market updates.
    • Utilizing high-speed internet connections and staying current with technological advancements enhances trading performance.
  4. Protecting Trading Capital (Rule 4):

    • Safeguarding trading capital involves avoiding unnecessary risks and preserving the overall business.
    • It's emphasized that protecting capital doesn't mean avoiding all losing trades, as losses are an inherent part of trading.
  5. Becoming a Student of the Markets (Rule 5):

    • Traders are encouraged to engage in continuous learning, understanding economic reports, market dynamics, and global events.
    • Knowledge of past and current markets helps traders better prepare for future market conditions.
  6. Risk Management (Rule 6):

    • Traders should only risk what they can afford to lose, ensuring that the money in the trading account is expendable.
    • Money in the trading account should not be allocated for essential obligations like tuition or mortgages.
  7. Developing a Methodology Based on Facts (Rule 7):

    • Building a sound trading methodology based on facts, not emotions or unrealistic expectations, is crucial.
    • Emphasizes the importance of fact-driven research and study, comparing trading to the time and effort required for a new career.
  8. Using Stop Loss (Rule 8):

    • Implementing a stop loss helps limit a trader's exposure during a trade and reduces stress.
    • Exiting trades with a stop loss, even if they result in a loss, is considered good trading practice.
  9. Knowing When to Stop Trading (Rule 9):

    • Two reasons to stop trading: an ineffective trading plan or an ineffective trader.
    • Staying unemotional and businesslike when faced with challenges, and making necessary adjustments or taking breaks as needed.
  10. Keeping Trading in Perspective (Rule 10):

    • Encourages traders to focus on the big picture, accepting wins and losses as part of the business.
    • Setting realistic goals is essential, emphasizing cumulative profits over individual trades.

These principles collectively contribute to a comprehensive guide for aspiring and experienced traders, promoting a disciplined and informed approach to the dynamic world of stock trading.

Top 10 Rules for Successful Trading (2024)
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