Context is the part of a trading strategy that defines when you trade and don’t trade, or which entries you take and which you leave alone.
It seems a lot of peole just think a strategy is only where you enter and where you exit (stop loss, target, trailing SL).
There is more to it than that.
For example, if you take all the trade setups a strategy offers you may notice that ones in certain conditions tend to lose. You note that and create rules in your strategy to avoid such conditions.
Then you may notice trades in other conditions have no net benefit (you lose as much as you make). So you decide not to waste your energy on those, and create rules to avoid those.
You are left with a strategy where you are only taking trade setups in conditions that tend to be winners (on average…we will never win every trade).
In the section below I have provided examples of things to consider, or “conditions” you may wish to look out for as they may be affecting your performance.
For example, whether day trading or swing trading, I trade a few fairly simple chart patterns (at least they seem simple to me). But they occur all the time. So I have additional rules that help me filter trades. One is that I need lots of movement coming into the pattern I am considering. Little movement coming in probably means little movement coming out. So I don’t trade. Lots of movement coming in, then pattern followed by trade trigger, means (on average) more movement coming out and that results in better performance.
It is not just hammering entries. That is not a strategy, that is an account-killer. Context is just as important as the entry; it IS part of the strategy (or should be).
I try to provide what I look for in terms of context when I discuss a strategy, because it is part of the strategy. Generally, such comments are ignored as people want entry rules, because entry rules make people think they are trading with an edge and thus can hammer away at keys. But having an edge requires including context rules in your strategy.
If there is little context discussed with a strategy, realize that context is probably needed to succeed with that strategy and you will need to do your own research to find it. Or at minimum, it is highly likely you could improve the results of a strategy by adding in context rules. Start by looking at lots of trade setups and start assessing which ones work and which ones don’t.
Trading Strategy Context Examples
Here are some things you may wish to consider when adding context to a strategy, or when assessing which context elements affect performance and thus should be included.
- Time of day – does the time of day orders are placed affect performance
- Overall trend – is there a trend present, how strong or weak?
- Is the price action choppy leading into a trade setup? And how can you define choppy so you know when it is choppy?
- If swing trading stocks, what is the condition of the overall stock market (how will you assess)? Roughly 80% of stocks move in the same direction as the major indices.
- How much price movement was there coming into a pattern/trade signal?
- Scheduled major economic data releases or company earnings
- How are you determining what to trade? Why that asset, at this time?
- Overall price movement recently (define what “recently” is)
- Risk/reward does the movement of the asset justify your profit target based on the risk you need to take (stop loss location versus entry).
- Are there prior major swing highs and lows near you entry? Do these affect performance? Does pick tend to pop through or get rejected by them?
- Can you mentally take certain trades, or are you prone to taking too many trades? You may need to develop rules to protect yourself from yourself.
- What do you do if conditions change during a trade, or you can see conditions changing when you are taking a trade? Or the trade is decent but not great? It may not be all or nothing, you may be able to change your profit target or use a different exit technique. I call this scenario planning.
The list goes on, but hopefully, you start to see how context is affecting your entries and exits, and how it can be used to improve a strategy. You may not need to consider all these, but there may be other things to consider. It will depend on your strategy and how you trade.
Context for a Strategy is the REAL Work
This is the real work. Looking at your trades and then looking for small details that on average affect your trades positively or negatively. Entries and exits are easy, it is knowing under what conditions to take entries and exits that is even more important.
If you want to be successful in trading—an activity that most people fail at—you need to do more of the tough work than others. Everyone else is watching YouTube videos and learning entry rules, so you need to differentiate yourself by digging deep into one or two strategies. Looking at your own trades and developing context rules for the trades YOU are taking.
This is the most efficient way to get to profitability.
By Cory Mitchell, CMT
Disclaimer: Nothing in this article is personal investment advice, or advice to buy or sell anything. Trading is risky and can result in substantial losses, even more than deposited if using leverage.