1% risk per trade

[Pazienza]

It seems to be a common risk management for full-time retail traders to set a risk of 1% of their trading account on each trade, thus for someone with a £100k account, they risk £1,000 per trade by setting the stop loss for the trade in the relevant place.

Is there a rationale for setting this to 1%? Why not set it to 1.5%, 2% for example?

Many thanks in advance,
George

I use 2.5%. The "correct" exposure depends upon many variables, but personally I would not be comfortable with a figure higher than this. It is my intention to reduce it gradually as well.

 

[options-george]

I use 2.5%. The "correct" exposure depends upon many variables, but personally I would not be comfortable with a figure higher than this. It is my intention to reduce it gradually as well.

thanks for your comments Pazienza - much appreciated.

I would be interested how you are getting on with using 2.5% risk per trade - how long have you been using 2.5% as a benchmark? What type of swings does your account experience on a weekly/monthly basis? How many trades do you typically take over a week?

WOuld be great if you were willing to share some of this info.

 

[options-george]

bump. another follow-up question.

I had a quick look on how to calculate the Kelly bet thanks to one of the poster's links.
For simple bets with two outcomes, one involving losing the entire amount bet, and the other involving winning the bet amount multiplied by the payoff odds, the Kelly bet is (from http://en.wikipedia.org/wiki/Kelly_criterion):

(bp-q)/b

f* is the fraction of the current bankroll to wager;
b is the net odds received on the wager (that is, odds are usually quoted as "b to 1")
p is the probability of winning;
q is the probability of losing, which is 1 − p.

so assuming i have winrate of 50% and I have RR of 1.4 then I get
(1.4x0.5 - 0.5) / 1.4 = 0.2/1.4 = 14.3%

Is this correct?

I wouldn't consider putting 14.3% of my trading account on one single trade. However I am considering to increase my risk/trade allocation from 1% to 1.25%. If I did that, then what would my ROR be?

(1-Edge/1+edge)^Capital units

My edge would be
p(win) = 0.5 win$=1.75 (1.25x1.4)
P(loss) = 0.5, loss$=-1.25 (1.25x -1)
EV = 0.875-0.625 = 0.25
0.25/1.25 = 0.2

So my ROR would be:
( (1-0.2)/(1+0.2) ) ^ 100/1.25
=0.0000%

Is that correct too? For a 20% edge, risking only 1.25% per trade - ROR should be practically zero - that does seem right. I have to say a 20% edge sounds huge, though that this what is implied by the given winrate and RR ratios.

I'd be interested in people's views whether I have done these calculations correctly.

 

[arabianights]

ignoring the mathematics (and the only point I'd make about kelly is the growth distribution looks a bit like a whale: you're much better erring on the side of caution, risk a bit too little and you grown roughly the same rate, risk a bit too much and your expected growth rate tails off damn quickly) I would point out that measuring risk becomes harder and harder at short time frames; I try to risk wayyy under 1% a trade but have lost 10% in a go before...

 

[bedsit]

It seems to be a common risk management for full-time retail traders to set a risk of 1% of their trading account on each trade, thus for someone with a £100k account, they risk £1,000 per trade by setting the stop loss for the trade in the relevant place.

Is there a rationale for setting this to 1%? Why not set it to 1.5%, 2% for example?

Many thanks in advance,
George

I would keep it simple with small risks - max 2%.

There is a formula known as ‘optimal f’ - designed to keep the trading experience relatively safe and to maximise the returns. Difficult implementation of the formula made traders unhappy complaining about being optimally f**d.

 

[trader30]

The rationale for using a low % of account per trade is to reduce large drawdowns when hitting a long series of losing trades. Statistically, this will happen at some point, hopefully later rather than sooner (though some would disagree!).

If you had £100k and you hit 10 losers in a row, using the following levels of risk per trade, you would have the approxiamate balances still in your account:

1%
£91k

2%
£83k

5%
£63k

This shows how unforgivable it is to use 5%, assuming youre not just having a punt with money you plan/expect to lose.

Trading is a long term game. Its about finding your edge and applying over time to the market, tweaking it along the way if required, to make long term profits. YOU WILL HAVE LOSING DAYS/WEEKS along the way.

Anyone who considers allowing a 37% drawdown in a week isnt a long term trader in my view.

Summary: Remove the danger of a "Black Swan" by using a low % per trade. Make it more about applying your edge than just blind luck.