percentage of capital at risk

[timsk]

A trader should be risking the same 1%-3% whether they are trading with £5,000 or £5m.

Hi Damian,
Do you not think that the success ratio of the specific strategy employed could - or should - influence the degree of risk embraced on any one trade? In other words, someone with success ratio of 80% may be happy with 5-10% risk, whereas a trader with a success ratio of 40% would be wise to keep their risk down to 1-5% bracket.
Tim.

 

[damianoakley]

Hi timsk,

Yes, I do agree that the amount you risk on each trade should depend on the overall strike rate and expectancy of your system. The 1% to 3% I quoted was applicable for my own strategy.

The best way to determine how much to risk on each trade is to first work out your strike rate, and then run a simulation to ascertain what your worst case losing streak scenario would be.

For example, let's say you have devised a strategy that has 60% winning trades. With this sort of strike rate, if you trade it long enough, you could easily have a run of 10 losing trades in a row. Now let's say you choose to risk 5% of your capital on each trade. If the worst case happens and you hit 10 losers in a row, you'll wipe 50% of your account. So now you ask yourself "could I handle this level of risk?" If the answer is no, then you may decide it's ok to risk 3%, in which case your 10 losers would wipe about one third off your account.

The amount you risk on each trade is ultimately determined by your own tolerance for risk. There are traders who could see half their account wiped out and still remain unphased, whilst there are others who start to get nervous when their account goes down by 15%.

You need to assess what you can stand, and from my experience this is different for everybody.


Thanks


Damian

 

[roguetrader]

Hi timsk,

Yes, I do agree that the amount you risk on each trade should depend on the overall strike rate and expectancy of your system. The 1% to 3% I quoted was applicable for my own strategy.

The best way to determine how much to risk on each trade is to first work out your strike rate, and then run a simulation to ascertain what your worst case losing streak scenario would be.

For example, let's say you have devised a strategy that has 60% winning trades. With this sort of strike rate, if you trade it long enough, you could easily have a run of 10 losing trades in a row. Now let's say you choose to risk 5% of your capital on each trade. If the worst case happens and you hit 10 losers in a row, you'll wipe 50% of your account. So now you ask yourself "could I handle this level of risk?" If the answer is no, then you may decide it's ok to risk 3%, in which case your 10 losers would wipe about one third off your account.

The amount you risk on each trade is ultimately determined by your own tolerance for risk. There are traders who could see half their account wiped out and still remain unphased, whilst there are others who start to get nervous when their account goes down by 15%.

You need to assess what you can stand, and from my experience this is different for everybody.


Thanks


Damian

Damian,
To a greater or less extent this is pretty much what I have said, you make no mention of account size in this determination. The idea that one should increase the % risk because you have a smaller account as some have suggested is to me ludicrously illogical, I can see the reasoning behind it as CC laid it out, a smaller account will make smaller profits when costs are taken out and progress may be painfully slow, however the problem here is under capitalisation. Jacking up the % risked to increase position size treats the symptom not the cause, and you become nothing more than an out and out gambler. People should realise that a 50% loss of capital requires a 100% gain just to break even.

 

[damianoakley]

Hi RogueTrader,

I think if someone is trading with a £1000 account, even if they made 50% return in a year, that's only £500.

People would think "I've only made £500" rather than thinking "I've just made 50%".

But let's say someone is trading with £1m and made the same 50% return. Then they can think to themselves: "I've just made 500 grand!", even though they've still made the same 50% as above.

I think that people put all the emphasis on the monetary returns rather than looking at the percentage returns.

I think you're right in that under-capitalisation leads people to start ignoring these percentages.



Thanks


Damian

 

[roguetrader]

I think that people put all the emphasis on the monetary returns rather than looking at the percentage returns.

Agree totally with that, people would possibly do themselves a great favour focusing on % rather than $, it would take some emotion out of the equation since money evokes a lot of emotion, a degree of separation as it were. Oddly humans like to immerse themselves in emotion even though it usually leads to clouded judgement.