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Stock Market · Trading Systems

Building a rule-based system

A rule-based trading system is a set of WRITTEN, SPECIFIC, UNAMBIGUOUS instructions for entering, managing, and exiting trades. Anyone reading your rules should be able to execute them and produce the same trades you would.

The 5 components every system needs

1. UNIVERSE: what you trade (Nifty 50, Bank Nifty stocks, etc.)

2. SETUP: market conditions that signal a potential trade

3. ENTRY: exact trigger (price, indicator value, candle pattern)

4. RISK MANAGEMENT: position sizing, stop loss

5. EXIT: target, trailing stop, time-based exit

Example: simple moving average crossover

UNIVERSE: Nifty 50 stocks with daily volume > 1 crore shares.

SETUP: Stock above 200-day SMA (trending up).

ENTRY: Buy at close when 20-day SMA crosses above 50-day SMA.

STOP: 2× ATR below entry.

EXIT: Sell when 20-day SMA crosses below 50-day SMA OR stop hits.

POSITION SIZE: 2% of capital per trade.

Anyone with these rules could trade this strategy. There's no judgment, no 'I think it'll go up'. Either the rules trigger or they don't.

Writing rules, the test

Bad rule: 'Buy when the stock looks strong.' (Subjective)

Good rule: 'Buy when RSI(14) crosses above 50 from below.' (Objective)

Bad rule: 'Exit when the trend ends.' (Subjective)

Good rule: 'Exit when price closes below the 20-day EMA.' (Objective)

Refinement happens after data

Don't try to design a perfect system upfront. Start simple, trade it for 50+ trades, then refine based on what the data shows. Tweaking before you have data is just guessing.

Takeaway. Rule-based systems have 5 components: universe, setup, entry, risk management, exit. Every rule must be objective. Testable, not subjective. Start simple, trade for 50+ trades, then refine based on data.