MONEY MANAGEMENT
Avoid The Risk Of Ruin
Fine-Tuning Your Money Management System
by Bennett A. McDowell
Acknowledge the risks in trading the markets by making sure your
money management system is sound.
When you hear
of someone making a huge killing in the market on a relatively small trading
account, more likely than not it was a fluke: The trader was not using
sound money management techniques. The trader probably exposed his trading
account to obscene risk due to an abnormally large trade size. The trader
may have just gotten lucky and experienced a profit windfall. Trading like
this means it's just a matter of time before huge losses dwarf the wins,
and the trader is devastated emotionally and financially.
Money management in trading involves specialized techniques combined
with your own judgment. Not adhering to a sound money management program
can find you exposed to a deadly risk of ruin, and, worst of all, most
probable equity bust. Keeping this in mind, you may find a few essential
money management techniques can make a big difference to your bottom line.
(See sidebar, "Proven money management techniques.") Here are some things
to remember when it comes to money management.
CALCULATING PROPER TRADE SIZE
If you are trading the exact same number of shares or contracts on every
trade, you may not be calculating the proper trade size for your own risk
tolerance. Trade size can vary from trade to trade because your entries,
stops, and account size are constantly changing variables.
To help reduce your risk exposure, the first step is for you to believe
you need this sort of program. Usually, this belief comes from suffering
a few large losses that make you want to change. This kind of experience
can enable you to see how the wrong trade size and lack of discipline can
sabotage your trading results.
Calculating proper trade size is a relatively simple process and can
ultimately reward you with greater profits and more efficient risk control.
You can determine maximum trade size by using the following formula. (In
addition, see examples A and B later in this article.)
...Continued in the August issue of Technical Analysis of
STOCKS & COMMODITIES
Excerpted from an article originally published in the August 2004
issue of Technical Analysis of STOCKS & COMMODITIES magazine. All rights
reserved. © Copyright 2004, Technical Analysis, Inc.
Return to August 2004 Contents
