There are many different trading systems that are available these days. Some seem to be profitable, while others are not. Traders often make the mistake of jumping from one trading system to another. This is because they hope that they will find the trading system that can make them money. But if you cut off the noise, you might notice something familiar. No matter what trading system you use, they tend to fall into one of the Four main types of trading principles. The sooner you understand this, the better your chances of understanding how a trading strategy might work.

Momentum Trading : 

Momentum traders seek the markets that are moving significantly in one direction in high volume. These traders attempt to ride the momentum to the desired profit. Momentum trading is the practice of buying and selling assets according to the recent strength of price trends. It is based on the idea that if there is enough force behind a price move, it will continue to move in the same direction.

When an asset reaches a higher price, it usually attracts more attention from traders and investors, which pushes the market price even higher. This continues until a large number of sellers enter the market – for example, when an unforeseen event causes them to rethink the asset’s price. Once enough sellers are in the market, the momentum changes direction and will force an asset’s price lower.

Momentum traders will seek to identify how strong the trend is in a given direction, then open a position to take advantage of the expected price change and close the position when the trend starts to lose its strength. A momentum trader doesn’t necessarily attempt to find the top and bottom of a trend, but instead focuses on the main body of the price move.

The best momentum trades come when a news shock hits, triggering rapid movement from one price level to another. In turn, this sets off buying or selling signals for observant players who jump in and are rewarded with instant profits. Another batch of momentum capital enters as the trade evolves, generating counter swings that shake out weak hands. The hot money population finally hits an extreme, triggering volatile whipsaws and major reversals.

Early positions offer the greatest reward with the least risk while aging trends should be avoided at all costs. The opposite happens in real-world scenarios because most traders don’t see the opportunity until late in the cycle and then fail to act until everyone else jumps in.

But the trick is that with trends, you do not know if a trend is formed, until it is formed. There are no technical indicators that can forecast how a trend will turn out to be. Therefore, the best way to deal with such trend following trading systems is to wait for the trend to establish. After this, you can then trade in the direction of the trend and scalp away a few profits. Some examples of the commonly used trading systems based on trend following is the Ichimoku trading system. You also have the MACD and the moving average indicators which follow the trend following concept.

Counter trend following : 

Counter trend following method is exactly as it sounds. Taking a contrarian view of the markets. This means that you will have to trade in the opposite direction of the trend. This can happen because trends do not follow a single straight line. Rather, you will see that within trends, there are pullback which can cause counter trend movements. Counter trend trading can be quite profitable, only if you are brave enough. This is because, the prevailing trend is so strong, these counter trend moves tend to snap back and pushes prices back into the trend. This can lead to big losses if you do not follow proper risk management rules.

But having said that, counter trend following can be a great way to make quick profits. Counter trend movements are often rapid and happen quickly. Thus, if you are positioned correctly in the market, you can stand to benefit from such counter trend movements. Some of the examples of counter trend movement based trading systems are the oscillator divergences that you can see. These typically capture price movements near the top end of a bullish trend or the bottom end of a bearish trend.

Breakout trading :

Contrary to trends and counter trends, breakout trading is a completely different beast. In this approach, you simple wait for prices to consolidate. When prices consolidate, they often tend to result in a strong breakout. Many day traders love breakout trading because it is very dynamic and if you trade correctly, you can make some very good profits. But the risks of breakout trading are also quite high. This is because price becomes so erratic that it can move back in the opposite direction before reversing direction.

This can lead to a good position in the market being hit for a loss before prices move back in the original direction. Breakout trading still has its own cult following and for a reason. Imagine the ability to make consistent profits using this method.

Sometimes, the breakout can be so strong that you can expect bigger profits. But the fact that there is always a risk of getting stopped out prematurely tends to put off some traders. An example of a breakout trading based system or indicator is the Bollinger band. When the Bollinger band contracts, it tells you that the market is consolidating. As a result, it will show you that a breakout is approaching.

Scalping :

 A scalper is an individual who makes dozens or hundreds of trades per day in an attempt to “scalp” a small profit from each trade by exploiting the bid-ask spread. Scalping is based on an assumption that most stocks will complete the first stage of a movement. But where it goes from there is uncertain. After that initial stage, some stocks cease to advance while others continue.

A scalper intends to take as many small profits as possible. This is the opposite of the “let your profits run” mindset, which attempts to optimize positive trading results by increasing the size of winning trades. Scalping achieves results by increasing the number of winners and sacrificing the size of the wins.

It’s not uncommon for a trader with a longer time frame to achieve positive results by winning only half, or even less, of their trades – it’s just that the wins are much bigger than the losses. A successful scalper, however, will have a much higher ratio of winning trades versus losing ones, while keeping profits roughly equal or slightly bigger than losses.

Spotting the trend and momentum comes in handy for a scalper who can even enter and exit briefly to repeat a pattern. A novice needs to understand the market pulse, and once the scalper has identified that, trend trading and momentum trading can help achieve more profitable trades. Another strategy used by scalpers is a countertrend. But beginners should avoid using this strategy and stick to trading with the trend.

Conclusion

To conclude, the above are the four main types of trading principles. No matter how fancy a trading system might look like, it tends to follow one of these principles. Therefore, the sooner you understand which of these four types of trading principles is suited for you, the earlier you are able to find a trading system that works for you.