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Wining money is not about the right trade or system. Neither is it about having the right perception. Winning money is a mix of both, it is an adequation of your abilities, your weaknesses and the environment that surrounds you.

Many techniques have proven to be right over the years. And often, analysts will claim to have found THE holy grail indicator when it comes to trading. And they can prove it. Literally. So, if winning money is so simple, how come that not everyone is making money? And especially how come people get losses by following winning instructions? Those Gurus will answer you right away: YOUR use of the indicator was wrong and all the signals were lying in front of your eyes.

And here lies the great philosophy:
The world is what YOU see and what YOU make of it.
And as paradoxical as it may sounds, YOUR way is the right way, and someone else’s different way is the right way TOO.
Because we are not just robots that systematically follow instructions and because we display emotions in our way of doing things, we are subject to errors.
And those missteps are ours to carry, and OURS ONLY.

Many experienced traders will tell you that trading is the best way to get to know yourself if you’re open to it. Trading is actually simple when you get the hang of it. The MOST DIFFICULT part is to know thyself, in order to adopt the technique/system that serves your personality the best. It eventually comes down to this: many systems are good, but few are good for you.

Being mentally healthy and physically fit will help you adapt to your direct environment, while still being who you are.

Risk

Could also be called position size

Your risk should always be the same: a percentage of your total capital. Say 5%. It doesn’t mean that you can only bet with 5% of your total funds, it means that once you get out of a position, the maximum loss that you will incur is 5% of your total funds. It also means that you know BEFOREHAND at what level you get out of a trade if it goes against you. In other words, you automatically put a stop-loss when you enter a trade. (Stop-Loss is a price you chose, at which you position is automatically closed). 

Example

Total capital available: 1000$. Risk per trade = 5%. So, for each trade that goes wrong, I lose 5% of 1000$ = 50$.

X,Y,Z shares trade at 100$ apiece. My system tells me it is a good time to go long, which I do. Let’s look at three different ways of entering a position, while still risking 5% of your total account:

  1. The classic 1 to 1: investing all your capital at once, stop-loss at 5% from entry
    I buy 10 shares at 100$ and set my stop-loss 5% below entry (95$). In case I’m wrong, I get stopped at 95$ and lose: 5% of a 100$ (=5$) multiplied by the number of shares I own (10) = 50$ total, or my maximum loss allowed. So, if the stock price goes to 95$, I would have lost 50$ and my whole position is automatically closed.

  2. The average guy: spread your bids to average down your entry
    A 5$ drop on a 100$ stock can happen more times than we’d wish. And it doesn’t mean price are going lower after that. On certain instruments, volatility can be a bit of a pain: whipsaws get you out of a position, that was actually right. In these cases, you need to adapt your strategy to your direct environment.

    Say, you expect prices that could pull back down to 91$, but that’s really not sure. What you are sure about, is the bullish momentum and how much you’d like to be in it, WITHOUT losing money just because there is a lot of volatility. So, instead of entering your position at market, at a price of 100$, you will spread your bids to buy shares from 100$ to 91$.

    Your average position entry will be the cumulative price of all your bids, divided by the total number of shares bought. So, if you buy one share for each dollar decrease, you’ll end up with ten shares at an average entry of 95. That is, IF prices go down to your lowest bid. Calculus is as follows:
    add the price entry for each share bought: 99 + 98 + 97 + 96 + 95 + 94 + 93 + 93 + 92 + 91 = 948.
    Divide by the total number of shares: 948/10 = 94.8$.

    So, your average entry will be 94,8$. Why is this important? To set up your stop-loss at 5% from entry. Here it will be at: entry price – 5% of entry price: –> 94.8 – (0,05*94.8) = 94.8 – 4.74 = 90.06$. It is lower than your lowest bid so all is good. Sometimes you might end up with a stop-loss price above your lowest bid and you’ll need to adjust for that. 

    Of course, this technique comes at a price. It is a safer way to play, but your position size most likely isn’t going to be as big as it could have been if you entered at market. And this is because most of your lowest orders are unlikely to get filled.

  3. The risk-averse dudeget in and forget about it
    Other people will want to enter right now, because you know… it’s now! But they might feel unsecure about their decision. Rushing in isn’t always a good decision, though they might be right. Because, truth is, nobody’s got a crystal ball. But basically everybody has an opinion. And what some don’t realize is that an opinion about future performances isn’t factual. It just can’t be. And history has proven numerous times, how wrong people can be. But you shouldn’t care. Whether you’re right or wrong is not the main problem. Your focus should be on how much this is going to cost you if you are wrong.

    So. My friend wants to get in on that bandwagon. He is not dumb, he knows a pullback might come in at any moment, but he also knows himself and is sure that he’ll lose his mind if prices soar higher without him. And when you lose your mind you make mistakes. He analyses a possible pullback to the 90-ish area. To sum up: he knows that now is the time to enter, that a pullback to 91$ is possible, and that if prices go below 88$, trend has been broken and he should be out. 

    So, he starts simple calculus: from 100$ to 88$, that’s a 12$ pullback, or 12%. I am entering my position right now, at 100$ and put my stop-loss at 88$, 12% away from entry. So, if I put all my capital into this trade, I’ll lose 12%. Unacceptable. What can I do?

    Position Size
    5% is about halfway through 12%. So, if I only bet half of what I was going to bet, I’ll only lose half of what I was going to lose. Instead of losing 12% of 1000$ (my total capital), I’ll only lose 12% of 500$ (60$). Pretty close to my risk level (50$). But still higher. Maybe if I bet a third, I’ll lose even less. 12% of 333$ = 40$. Fantastic! So, by adjusting how much I put into play, I can actually control the distance of my stop-loss from my entry, while still risking losing the same amount of money!

    Please, do not get obsessed with exact numbers. Whether it be 4% or 5 or 6, it doesn’t really matter. What matters is the process, not the outcome: proceed with care (risk management) and the rest will eventually align. If you keep on losing, maybe your technique isn’t as accurate or adapted to your personality as you thought.

  4. The aggressive player: all-in. And some more.
    Finally, you got the big players, the ones that go 100x (I’m exaggerating). You need leverage for that, as you will invest more than your total capital available, and you’ll get it borrowing from your broker or exchange.

    Now, the price already did a pullback, at 95$ and is now coming again with force at this 100$ resistance. Your bet is that pullbacks on X,Y,Z are done, consolidation already happened, and if prices were to come back to lower ranges, then the momentum would be over and there would be no need to be in this position anymore. So, you enter at market, at 100$ a share, and set up a very tight stop-loss, at 99$, or even 99.6$. Well the good news is that you’re going to be able to put a whole lot more on the table on this one. At 99$, stop-loss is at 1% distance from your entry. If you’re stopped, you lose 1%. But hey, I meant to risk 5% of my total account! Here’s the beauty of it: if the shares only loses 1% and you’re risking 5% of your total capital, then you can lose 5 times 1% to get to your risk of 5%. So, you can risk 5 times more!

    Yes, it may sound confusing at first, but it is simple logic. You have a 1000$ of capital and a risk of 50$ per trade (=5% of total capital). If you bet 1000$ and price goes down 5%, then you lose 5%, or 50$. If on that same trade, with the same stop-loss, you only bet 500$ (half of your total capital), then you’ll only lose 25$ (5% of 500$ is 25$). On the other hand, if you bet double on the same trade with the same stop, you’ll lose 100$ (5% of 2000$ is 100$).

    So, the right trade for a stop-loss at 5% from entry price is to bet one time your total capital (1000$) to lose 5% of your total capital. If your stop is at 10%, you will incur double loss (10% of 1000$ is 100$), so if you bet half your total capital, you’ll only lose half what you were going to lose  (10% of 500$ = 50$ –> half of 100$). If your stop-loss lays at 1% from your entry, you will only lose 10$ (1% of 1000$ is 10$) if you have a position one time your total capital (1000$). By trading a position 5 times bigger (5000$), you will in fact lose 50$ (1% of 5000$ is 50$), which is your risk level (5% of total capital)

Here’s a sheet of concordance between your position size and you stop-loss distance, for a 5% risk of total capital per trade:

Stop-Loss Distance from entry 5.00% 4.00% 3.50% 3.00% 2.50% 2.00% 1.50% 1.00% 0.50% 0.33% 0.10%
Position size* 1 1.25 1.44 1.64 2 2.5 3.33 5 10 15.15 50

*Position size is relative to your total capital. So, for an account of 1000$ and a stop-loss at 2% from entry, your total position size could be 1000$x2.5=2500$. Should the price drop 2% from my entry, I would lose 2% of 2500$, or 50$. Which matches my 5% risk of total capital per trade.

Conclusion

So again, you ought to know who you are, how you like to trade AND how you trade successfully, to know which exact technique suits you, and how you can implement it. But for all of them players, risk should be managed the same. 5% of capital per trade/idea/investment/opportunity/whatever.

5% and you can almost go nuts at it all. You’ll never lose too much, because every time your total capital diminishes, you’ll need to adapt your maximum possible loss. Say you lose you first trade; total remaining capital is 1000$-50$=950$. Next bet, you’ll only be able to lose 5% of 950$, so 47,5$. And so forth.

Nº of good VS bad trades

Finally, you should adjust the potential gains and the risk of your trades to the number of winning trades you have. 

This one is a tad more complicated. You need to keep track of all your trades to know how much out of 10 times you usually are right. Why? Because it will be correlated to your overall performance.

A few generalities 

These are no rules for trading. They act like firm intentions of the price to move in one direction and they are an invitation for you to strategically prepare your move: low risk, higher reward. 

“Watch for crawling along or repeated bumping of minor or major trend lines and prepare to see such trend lines broken.” (Donchian rule)

A repeated bumping against a line convert a will to trade in that direction. If after bumping the line prices retrace less farther each time, it reinforces the tension against that line. Horizontal support/resistance are usually stronger than diagonal ones.