2 golden rules to become a permanently profitable trader
There are only two golden rules to become a stable earning and profitable trader:
- Risk management
- Money Management
No other strategy/tactics will give you profit to your deposit. My experience shows that no any strategy found on the internet, offers risk management within. Basically they offer martingale money management strategy, where stop-loss is not used at all. In other words, if you take a random strategy or a signal from the Internet and use it together with the right risk management, the trading will be profitable.
You need to focus on the process, not on the result. Money will come when the process of finding an entry and calculating risk will be more important than earning money or beautiful charts or 95% of profitable trades. To learn to think by probabilities mean to use the opportunity to enter “here and now”, otherwise in a minute there will be an opportunity that has already gone.
I advise you to take it immediately for an axiom: no one can predict price behavior in the market. Each trade can be both: profitable and unprofitable before entering market. This means that you need to make a decision in total uncertainty.
To control risk and capital you should not have predetermined outcome of the event in the head, so as not to be attached to this wanted desire. However, if there is no single thought in the head about where the price will go, there is another edge – doubt and uncertainty. In order to get rid of these feelings from your head, you need to have trading statistics about your signal/strategy: how much % a signal gives profit and how much loss, how much risk can you afford for each trade per day/week/month and so on.
For proper risk management you need to prepare in advance:
- Statistics: Collect statistics on the signal / set of signals (the so-called “trading strategy”)
- Limits of risk for the order, by day and month: To be able to calculate the volume of the trade based on the Stop Loss size, to know how much you can risk during the day and month
Consider these two points in more detail.
Statistics and its impact on trade
When you have trade statistics, your trading discipline can rely on knowledge about your trading statistics. This knowledge cane reduce psychological pressure and as a result your doubts about entering into each trade will disappear. Even if a series of losses arrive, you always know that in the long run you will get profit (positive result) or at least most of the capital will remain saved.
Statistics is a very good base and motivator for get your discipline under control. What does discipline mean? The ability to do the same thing and to think the same way every day (in this case, search for the same signal or set of signals).
In order to collect statistics you need to do the following:
- Open a terminal and start trading a random timeframe and a random pair
- At the end of the test calculate the following:
- What is the optimal stop loss
- count the number of positive and negative trades
- What is the optimal ratio for trades: 1 to 2, 1 to 3 or another
- In which part of the market (down trend, up trend, flat) trades are most profitable or unprofitable and so on
When all the numbers are collected, you can analyze them.
Risk edges for risk and capital management
In all sources, it is advised to use a maximum of 2% risk per trade. Based on my own experience, I confirm this advice. Why up to 2% risk? It is simple as 1-2-3! In order to have the greatest chance (!!!) “for a shot” – to enter the market. The more shots, the more likely to catch the trade, which will give a profit (at a ratio of 1 to 2 or more).
No one ever knows when the profitable moment will come, so you need to check each entry and each signal for the probability of the outcome of an event (positive or negative)! No one knows how to predict the future, but in trade to catch a good trade, you need to open an trade without any doubts every time you receive your signal, otherwise you can miss the chance witch will could be long awaited profitable move with ratio of 1 to 2 or more.
Always use Stop Loss!
Price is always right! All the indicators that you use are lagging behind – this means that while you are waiting for a signal (usually waiting for confirmation) on the indicator, you are already late.
2% is needed in order not to overcome the level of capital recovery
Let’s suppose you have collected trading statistics for your signal on history data (or using real account). Now you can count all the variables of interest. Suppose you statistically have a maximum drawdown: 20%, then according to the table 1 (see above) your level for recovery will be 25%! In other words, to get out of a 20% drawdown you need to earn 5% more!!! It also means that if your risk per trade is 2%, then you may be mistaken 10 times (10 * 2 = 20%), and for recovery you will need a little more than 6.25 trades (averagely 7 trades). If you increase the risk by 2 times per trade (up to 4%), then you will reach the level of allowable drawdown by completing only 5 trades (5 trades * 4% = 20%) and you will be needed only 3.125 trades to restore you depo. Sounds perfect ! However, it is necessary to take into account the psychological moment: with an increased risk, you may lose your nerves (tested empirically) and you will not wait for a take, which violates the rules of the risk-profit ratio and, consequently, the entire risk management strategy.
Risk |
Recovery |
1% | 1.01% |
5% | 5.26% |
10% | 11.1% |
20% | 25% |
30% | 43% |
50% | 100% |
70% | 233% |
90% | 900% |
This scenario is rather theoretical but it will work if you strictly control risk-reward ratio for the trade (min. 1 x 2 or more). In real trading if you can wait for either the stop loss or take profit, then managing risk will will bring you profit.
Think about it, the greater the risk per trade, the fewer trades for recovery must be made. However, you need to remember one one thing (which can be found in your trade statistics) – a series of losing trades or the maximum number of negative trades in a row. Let it be 6 loss trades in a row (taken from my real trade statistics; yea, i can get exactly so many negative trades in a row). Now let’s calculate: if the risk per trade is 2%, then you can make 10 “shots”. Of these 10 shots, there may be 6 losses a row (this makes -12% of the deposit), which, in fact, is less than the allowable drawdown level (if you remember, it is equal to 20%) and following 4 trades can cover all negative trades and even earn money a little bit (if ratio of 1 to 2 remains).
If you have risk 4% per trade, then you have 5 trades for a shot before max drawdown will occur. Now, your series may have 6 negative trades in a row. In this case, you will exceed the allowable drawdown level earlier than you will be able to recover the deposit.
If the drawdown level is exceeded, you must finish trading, otherwise further trading will cause irreversible losses that require even greater efforts to recover. However, ask yourself the question: if you could not earn with a 20% drawdown, then for that reason you can earn profit having greater drawdown (25, 30, 35%…)? Remember, negative psychological factor will increase too.
Bottom line: using less risk (for example, 1% or less) probability of recovery of your capital increases many times and has a less painful negative effect on the psychology and attachment to predetermined outcome of an event (price movement).
The Holly Grail of trading is – courage within each trader to enter each trade at your signal (using your entry rules), taking into account the risk per trade (risk management) and the calculation of the lot (money management)! No one can predict whether this trade will be profitable or unprofitable – to check, you need to open it and wait for the stop loss or take profit. Then repeat all the actions! That is the GRAIL of trading. Not any strategy using any indicator will do this (earn profit)!
Watch youtube video about risk management and capital management https://youtu.be/ZoQINgIZbxI
Slides (google docs) used in video you can get here https://docs.google.com/presentation/d/1PdSs6bQncRIfk_HmQgWLBRgUrrxNvVcNMw6rEFOQaPw/edit?usp=sharing
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