Trading Risk Profile
Part 2 - Expanding Your Trading Risk Profile
In this article I plan on taking you through my development as a trader and ultimately to me unlocking my trading risk profile. Since I started day trading, I have tried a number of systems, indicators, and automated strategies. I have sold stocks for a fixed percentage gain. I have sold stocks once a given dollar amount was achieved. Once I exhausted all of these trading methods, I realized that I was unable to achieve the goals I wanted, due to the fact my trading risk profile, did not coincide with my style of trading.
What is your Trading Risk Profile
If you are able to answer this question truthfully, you will be a successful trader. I was using so many systems that I believed would reduce my risk and in fact they did. Only problem is that as these systems reduced my risk, it also set me up for a large number of small losses. These losses, when added to my winners, left me "grinding" away in the markets. The reason I was fighting other traders for dimes, is because I was unwilling to give back the nickel I had just made. So, when I would look at my performance report in TradeStation, I would find myself wondering how and why I was unable to achieve large winners. I would see a number of.5% gains and the occasional 1.5% gains, but nothing that jumped out at me. The reason I was unable to achieve these types of gains was due to my lack of confidence in my ability and also my succumbing to the randomness of the market. I was attempting to place these very strict rules around price movement, in order to "protect" myself form riskier trades, while really I was only hurting myself, by not allowing my day trading setups to play out to their full potential. So, one day I finally got fed up, and decided to make a change.
Redefine How You Perceive Risk
Many traders will first focus on how to eliminate risk, instead of embracing it and accepting it as a part of the trading game. Right now, I want you to think of a percentage in your head that creates the most fear for you if you took a loss for that amount. Now this number is relative to you and your trading style. So, as an example, let us say that Trader A felt that number is 10%. Trader A will then need to look back over their trades to see how many times a losing position went against them 10%. If this rarely happened, then Trader A knows they have hit the right number, because the percentage at risk is so large that it accommodates their trading system. Now, I know what you are thinking, is he suggesting that we just put some absurd stop loss percentage and let it ride? The short answer to that question is no. The goal of increasing the amount you risk, is to prevent you from taking small losses. Once a trade has gone against you significantly, wait for a bounce to get out breakeven or with a minor gain. Over time you will notice that the losers that use to peg you for those small amounts are now eliminated and replaced with breakeven trades or for small profits. This will not only prove beneficial for your account, but it will also play an important role in developing a winning attitude. Now, it would be wrong of me to say your "end of the world" stop will never be hit. It of course will be hit, but that occurrence will be few and far between. Enough so that when it does happen, your profits will be able to weather the storm.
How to Implement the New You
Risk is a funny word, because like beauty, it can mean a lot of things to a lot of people. This article is not your free pass to become reckless in your trading activity. You still have to honor how much you are willing to lose per trade. So, let's assume Trader A is willing to lose 2% of their portfolio on any one trade. If Trader A knows that 10% is their drop dead stop, then how much can Trader A risk? If trader A is trading a $100,000 account, they would be willing to risk $2,000 per trade. If Trader A knows that they are willing to risk 10%, then they would be able to trade $20,000 per position.
Pitfalls when Expanding a Trading Risk Profile
Below are the top reasons increasing your trading risk profile could potentially hurt your trading. Please read this list carefully. If you avoid making these mistakes, your trading has a much better shot of improving.
- Drop dead stop is not big enough for your trading style
- You ignore the early signs that your trade is wrong
- After a trade has gone against you severely, you do not exit the trade on your first opportunity to get out at or close to breakeven
- You begin to let trades hit your drop dead stop frequently
- Risk too much of your portfolio on anyone trade
- Do not set your drop dead stop based on previous trading activity
- You begin to trade differently after you expand your trading risk profile, thus making your drop dead stop meaningless
- Base the amount you risk per trade on the cash value of your account