Selecting the Right Trading Signals

The way you enter and exit the market should be based on what you believe about your trading strategy and how the markets work. If this is not the case you will have trouble pulling the trigger when you get a signal.

In Van Tharp's various outstanding books and courses, he teaches that your beliefs about the market are the most important determinant of your ideal trading system. The first step to ensure you choose a trading signal which matches your beliefs is to document your beliefs about trade setups, entry signals, exit signals and initial stop losses. I discuss this concept further in the 'trading system goals' section.

Trial and Error - The Biggest Mistake

There is absolutely no value in using trial and error trying all different entry triggers / buy signals / sell signals hoping to find something that works.

When you use trial and error all you end up doing is curve fitting to past data. Building a system that works fantastically well on past data but doesn’t work tomorrow or into the future. Start with your beliefs and your trading strategy and select trading signals that support these to reduce your chance of curve fitting

When we changed our approach from haphazard trial and error to belief / hypothesis based system design we found enormous benefits which included:

• Greater clarity on objectives
• Reduced need for optimization
• Greater real time profitability
• Reduced development time
• Simplified system design

Selecting Trading Signals

Once you have documented your beliefs about each type of signal and you understand your chosen trading strategy, you are in a position to select the best trading signals for you or design your own signals that fit your beliefs and strategy.

If you do it this way then you will end up with a system that you are comfortable trading and you will be able to stick to. This is the most important thing for system trading - design a positive expectancy system that you can execute consistently.

If you have a positive expectancy system that you can execute consistently then you have a good chance of meeting your objectives if you work on your money management and position size rules. You will have difficulty executing your trading system consistently if your trading rules are not based on your beliefs about the market.

Choosing signals for your trading system

The first consideration is that looking for a trading signal that generates a profitable trade on its own is nonsensical. You can come up with the best entry signal ever designed, but unless you have this rule as part of a complete trading system with all of the required components working effectively together then there is no way you will make money in the long run.

As discussed in our trading systems section, a complete trading system needs each of the following:

• Objectives
• Setup
• Entry trigger
• Initial stop loss
• Exits
• Money management and Position size rules

Please refer back to Trading Systems if you need a refresher on the importance of each section.

As you can see, the trade entry trigger is just one part of the complete system. Many people also suggest that it is the least important part of the system (This is a major message that Van Tharp teaches). Entry triggers are the area most prone to curve fitting, over optimization and the random noise in the market. It is really how you exit a trade once you are in that determines how much profit you make from it.

I have my strategy & beliefs – what signals should I use?

As always, simple is better than complex; less rules is better than more rules. Complex trading systems with many rules may appear best in backtesting, they are unlikely to perform well in the future.

This is because it is more difficult to curve fit a simple system with few rules to past data, but if you have many rules and complex manipulations you can very easily fit your system to the nuance of past data. This will render it largely useless in the future! The lesson:

There is an infinite array of possible trading rules from which you will need to select the best trading signals for your trading system, but let’s first review an example of how your beliefs and trading strategy might translate into some specific signals. Review the example here and then continue reading below.

If you have been following our process to this point, you should now have the following:

1. An understanding of your trading objectives
2. Selected a trading strategy
3. Understand the components of a trading system for your trading strategy
4. A shell of a trading plan with detail in some sections
5. Documented your beliefs about each part of your trading system

Now it is time to select rules that match your beliefs for each component of your system before moving on to the trading system development stage. At this point you need to determine whether you are going to use eod trading signals (end of day) or intraday trading signals. For many reasons discussed here, I believe eod trading signals to be the best place for novice traders to start.

The table below provides a selection of trading signals by category that you may consider using in your trading system development. Each link provides an explanation of the rule, some sample beliefs that match the signal and the type of trading strategy that this may be used for. These signals are technical indicators that can be applied to the stockmarket, futures, commodities or forex systems.

Of course this is only a guide as there are many ways to use different indicators and you can certainly build your own signals if you prefer.

The following table will assist you:

Trading Signal Collection:

For definitions and many other ideas in each of these categories, I recommend you purchase 'The Encyclopaedia of Technical Market Indicators' by Robert Colby. This book provides an explanation of a huge number of trading indicators and signals and is an invaluable reference for new and experienced traders alike.

If you are interested in learning how to generate trading signals from technical analysis of chart patterns then there are some useful articles on the Tradersplace website.

For the 3 simple steps I recommend to find the best trading signals for you - click here.

Related Articles:

Main Trading Signals Page: Selecting the right trading signals

• The Best Trading Signals in 3 Simple Steps
• EOD Trading Signals and your Trading System
  

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