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Thursday, July 7, 2011

Talking Money Management in #FX #Trading - Leverage & other #important considerations

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The consensus recommendation out there in the forex world seems to be that a low risk trader should risk no more than 1% of his/her account on any one trade.

The theory seems to be that trading in this manner would require 100 losing trades in a row to cause a margin call.

I assume that most people trade like this because that's the way they are taught to trade. The whole "you can lose 3 trades and then score big on one and still make a profit" thing. I have always said F that.. I want at least a 70% winning percentage even though my true goal is more like 90% ;)

Some people even risk as much as 2% to 5% per trade 50 consecutive misses = margin call to 20 consecutive misses results in a margin call (for the record I probably have had 20 misses in a row myself at some point).

WTF is a "trade" anyway?

Is it a one lot entry? 2? 3 lots? And then we get this formula to calculate the position of our stop based on our acceptable risk level..

Sounds too much like planning to fail to me.

Lets work with a fictional $25,000.00 account, which in my opinion is about the amount required if you desire to make a living trading forex. And I'll get into the reason for that briefly.

A lot of the time I pretty much ignore common wisdom.. I like to arrive at my own conclusions based on my own experiences. Some call this thinking outside the box.

There are many human emotions tied up in forex trading including greed, fear and joy.

There is an insane amount of leverage available to virtually anyone.. And since, most pair, are valued by the 1 / 1000th of a penny in price movement (a pip) gains and losses when combined with that much leverage can potentially be huge.

That, in my opinion, may lead some people to believe they can make a fortune in the forex market with a tenth of that $25,000.00 (= $2,500.00 USD). There are even a lot of people who attempt to trade a $250.00 USD forex account.

In my opinion that's just insane..

But then some might think my money management technique is just as silly.. I don't know and that's why I'm going to tell you about it..

Trading forex by the "book" says two common mistakes people make is trading too large a size (ie; taking too much risk per trade by using too much leverage). The other side of the same coin, according to books I have read, is that people become so fearful of the forex market that they don't take enough risk to make money when they are right.

While you can count me in with the people who are scared sh*tless by the forex market at the same time it's that second conclusion that I beg to differ with.. (That people don't take enough risk).

I was an experienced trader when I began trading FX. I have been trading equities since 1998 and very actively since 2004. I endured the dot com bust and 9/11 and participated in the remarkable (if not manipulated by low interest rates and loose monetary policy) bull market from 2003 through most of 2007. I participated in the 2008 crash market, which was very exciting LMAO

So I came to the forex market expecting to kill it..

I didn't really understand leverage & volatility very well when I first started trading forex. As I have often said publicly before I'm a slow learner lol

I blew up two forex accounts (margin calls after having decimated the account) and in so doing paid my tuition to the market gods (ie;Primary Dealers). Thousands of dollars is what I paid to attend the school of hard knocks. But F that.. we all do that don't we?

It's interesting how margin calls can cause one to stop and think.. Especially that 2nd one LMAO

Anyway I decided risk in the forex market is downright scary..

I'm an impulsive guy.. I know that about myself. Addictive personality type. I like to do things the way *I* want to do them and F all the accumulated common knowledge.

So here's some weird math for you to check out..

Again fictional $25,000.00 USD account..

What if your "risk per position" were equal to 1 / 10th of 1% ?

In other words on a $25,000.00 account your average risk exposure per entry = $25.00 USD. $25.00 being 1/10th of 1% of $25,000.00.

I try to limit my daily losses to about 1% whether that involves 1 trade or 100 trades.

I still experience all the same emotions everyone else does. I have conditioned myself to do that intentionally. I want to feel the greed and fear involved in trading. It's a necessary component of trading.

However, at the same time I can do ANY F'ING THING I WANT in the forex market without fear of blowing up my account.

An absolutely horrendous day to me is a 3% drawdown. By the time I get to that level of losses I feel like a complete FX idiot who doesn't have a f'ing CLUE what he's doing! But at the same time a 3% drawdown is much better than a 30% drawdown. It's survivable. Plus, as I said, I have the complete freedom to trade any way I desire in the FX market.

There are times I go crazy and have as many as 8 or 10, even 12 at times, positions open at once. Once my leverage gets to be 3 or 4x I start to get really nervous and panicky. I'm not a f'ing bank trading with 30 to 1 leverage.. I pretty much plan to add to losers (another no-no I know) because at 1/10th of 1% risk I can add 2 or 3 times to the same "trade" to get a better average price. i try to buy/sell at important levels as provided by MAs, trend lines, fibs and fib extensions. And I can pretty much DO whatever i want without fear of dying.

In my opinion trading forex should never be about making making money.. It certainly SHOULD be about making pips though. Consistently. Your account should grow slowly over time. Until the day comes that your account is doing that your size should remain very small.

In the meantime you should focus on making pips, on being a great forex trader, not on making money. Once you become a great forex trader the money will automatically follow.

The reason, in my opinion, that one needs a minimum of $25,000.00 USD to trade FX to "make a living" is that you can then set a goal / rule of 1% on any given day in losses and/or wins. That 1% on a $25,000.00 account = $250.00 p/day. Trade well enough and you can make a little cash at that rate.

$2,500.00 USD forex account? Your "risk per entry" should be about $2.50 on average.

1% p/day on such an account yields $25.00 per day.. Tough to make a living on that.

This money management system allows you to participate in the FX market while experimenting with any trading system you like while attempting to hone your trading skills to a level of consistency that would support additional risk.

Let me know what you think?

Have FUN trading forex! Don't kill your account, or yourself, in the process ;)

Happy trading

Greg

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