I personally find the 2% rule too risky but I have to say that using very rigorous money management strategies is core to my trading plan. The following blog post is interesting as it demonstrates the risk of the 2% rule (using random numbers). Money Management Software Model | MT4 Programming (disclaimer: I have no affiliation with this company/blog)
I use 0.75% as a maximum at risk per algorithm but the actual amount traded is typically much lower and computed based on a number of other dynamic criteria (e.g.: actual profit factor, historical correlation between algorithms, etc)
The ideal amount that you risk per trade is determined by your statistics, strategy, and if it is risk-free capital or not.
For example, if you have a 99% win percentage then why only risk 1-2% per trade? You would not be taking full advantage of your buying power.
Let's take the S&P Emini for example and we will say that you have a $10,000 account size.
Through your testing and trading records, you determine that you have the potential maximum drawdown of 12 points ($600 per contract). If you are trading 1 contract all of the time then that means your maximum drawdown would never be more than 6%. Personally, I am happier with a larger drawdown and therefore I can make more money so I might be able to trade 3 contracts giving me a maximum drawdown of 18%.
At this point, I don't care what my maximum risk per trade is. All I care about is what is my overall portfolio risk and this would show me that it is no more than 18%. This could mean that I am risking 5% per trade if I trade 3 contracts. The per trade risk, at this type of money management, is of less concern.
Then you step it up to another level. Different strategies perform differently with different amounts of risk. For example, I have a strategy in my toolbelt that performs at its optimum performance level when it is risking 14% per trade. That sounds COMPLETELY absurd to any trader (and as well it should). But let's consider this for just a moment.
If you are trading with money that can not be lost then you should not be trading at 14% per trade...obviously. But, if you have risk capital (profits that you do not mind if you lose), then start increasing your risk until you are able to trade it at its optimum risk percentage. It makes for a very very fun way of trading. Then you can be trading at 14% per trade and have 0% risk.
BUT!!! you MUST know your trading statistics in order to do this. This is advanced money management so do not try this stuff out without having a lot of statistics. These are not ever talked about in trading forums or trading seminars/courses. But these tactics are out there and they work very nicely when done correctly.
Okay so I think I will set my loss/trade to 1% for swing trading(few days to few weeks).
But what about the percentage of stock price, is there an ideal percentage of stock price to set? Example let say the stock price is $50, I already know if I lose itís one percent and risk/reward is 1:3. What about stock price loss? $1, $2, $5? Is there an ideal size? I would imagine the number is less for day trading. Thanks again.
I would think the same risk reward rules would follow suite. However the rules to allocation of your funds are a little different.
I was taught that you are supposed to spread your stock purchases across the different asset allocations.
for instance 25% goes into Tech. 25% goes to materials. 25% goes to autos. 25% goes to cash.
I found playing stocks on a daily or weekly basis difficult. Spending allot of time listening to the ding bats on TV.
Buy and hold. Peel some off on the really good days. buy more on the pullbacks.
If you always do what you have always done you will always get what you have always gotten.
Celebrate because you executed your edge. Not because you won.
1% of a $5 stock is $.05 so you shouldn't be risking any more than $.05 if you're account is only $5 dollars large. However, if you have 100,000 dollars than you can risk 1000/$.05 (1% of 100,000) which is 20,000 shares of the 5 dollar stock.
The later half of your question is somewhat ambiguous, but I assume what you're asking is 'are smaller stocks best for day-trading'?
Last edited by Itchymoku; August 16th, 2013 at 12:08 AM.
sorry maybe my question was a little confusing, I meant if let say I have $100,000, my risk is 1% or $1000. I see a $50 stock and my plan is to have a 1:3 risk/reward ratio. However, I don't know the ideal size of stock price loss to set. Meaning, should my stop loss be at $49(1000shares), $48(500shares) or $45(200shares). Is there an ideal percentage to the stock price to place stop loss. Sorry if it is still confusing.
Last edited by strike333; August 16th, 2013 at 12:28 AM.
This post has been selected as an answer to the original posters question
You can adjust what price to put your stop by how many shares you're buying. For instance if you wanted to put your stop at $40 you could just buy fewer shares but risk the same 1% of your account. You might want to adjust the amount of shares you buy so you can place your stop loss at an ideal level in accordance to price action, like for instance at the last highest price peak. Just make sure that if you're risking lets say a random $10 dollars of price movement on a $50 stock that means that you'll only buy 100 shares if you wanted your stop loss at $40. You don't just want to put your stop-loss at an arbitrary number like $49 if $49 doesn't have any significance in relation to price behavior on the chart. I know there is another thread about this but I can't recall it off the top of my head.
If I understand the question. Then I would say no cuz volatility is different on all stocks.my advice would b use market structure to determine wher u r wrong in the trade ( your stop) then adjust share size to b no more than 1 or 2 percent. But u don't have to always go 1 to 2 percent use it more as a max. Maybe u stay out of the trade if its just too much risk.if u are new to trading then I suggest take as little risk as possible on each trade and don't worry about how much u make worry more about trading well. Just my two cents. Good luck!
What I'd suggest you do is open up a demo or 100 dollar Micro FXCM account and get use to entering in stop loss / limit orders on currency trades. This really helped condition the fundamental math concepts behind how to manage money in the beginning and it's virtually as cheap as it's going to get regarding opening up an account with trading. I know currencies aren't the same as stocks but they help you get in the habit of calculating various money management trading strategies.