Logic In Investment Strategies

I’ve been trading stocks and forex all my life. One thing I gradually became aware of during this experience was that the strategies which make the most logical sense typically are the ones which work the best.

There are so many strategies I’ve tried, I have lost count. And there are at least as many which I’ve let go without trying. There are just too many. I found a quick fire way though which helps disregard the strategies which are useless, so you can trial the ones which are worth trialing. Its logic. Look at the logic of your trading strategy and see if there are holes in it. You’ll be amazed by the number of strategies with big logical holes.

Most strategies presented to you will make sense. They have to or you would disregard them as nonsense. This is not what I am talking about though. The concern discussed in this article is logical completeness. If a strategy does not cover all possible scenarios you may come across, it will not take long before you find one of those scenarios. And when you do find a scenario which is not covered by your strategy, all of a sudden you need to make decisions outside the strategy. You will probably be left scratching your head or guessing.

Personally I think that making decisions like this, decisions which are outside the logic of an investment or trading strategy, is gambling. Its not a good situation. Sure you may make money with this gamble, but you could lose it too. Its no different than blackjack. A robust and complete trading strategy should take these gambles away from you. There should be no guesses. You should just plan the trade and then trade the plan.

The other problem with this is that no matter what happens to your returns from that point, you will never know if it happened because the strategy worked or because of the guess you just made. This also can create problems as it must impact your confidence in the strategy. If your confidence is impacted, this may further cause you to divert from the strategy in other circumstances, exacerbating the problem.

So if you are thinking about trading a new strategy, short cut experiencing some pain and loss. Go through the logic of the strategy in a robust and thorough manner. Are there scenarios you can see, which the strategy possibly does not cover? If so, try and get answers for those scenarios. If you can’t get answers for them, personally, I’d avoid the strategy. Lets face it, going to the horse races is much more fun 🙂

And once you are happy with the logical analysis you have applied, don’t forget to dummy trade for a while too. In dummy trading you will probably find a number of scenarios you never thought of. This gives you the chance of ensuring the strategy deals appropriately with them too, without risking any money. Good luck.

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