The Investor Diary Entry #57: July 6, 2024
In this entry, I am going to be framing risk management as the cornerstone of successful trading. Addressing my personal journey, you’re going to find out about how I’ve come to value a robust risk management system that has stood the test of erratic market movements. In the journey of trading, one principle stands out as my guiding star: risk management. Today, I’m excited to share the detailed rules I follow to manage my risks effectively. These rules are my shield against potential chambers of market downturns and a crucial aspect of my trading strategy, ensuring that I maintain discipline and consistency.
My strategy isn’t just about picking winners; it’s also about having a fallback when the tide turns against me. It means recognizing that losses are an inevitable part of trading and planning for them. Getting emotional about losses can derail even the most promising trading career. Instead, I choose something that resonates with me: a calculated, methodical approach that keeps my emotions in check.
A lot is happening very quickly in the markets, and having a set of steadfast rules provides a sense of control. I heavily emphasize the need for discipline – sticking to the rules not swayed by the promise of a big win or the fear of a loss. This is the strategy I like to leverage, focusing on controlled risks and shielded investments rather than erratic, high-stake bets.
Your first attempt at creating a risk management plan doesn’t need to be your last. You can always adjust your approach down the road. What’s important to me, and what should be important to you too, is that you have a system in place. A system that helps you make rational decisions, even in the heat of the moment.
So, now that we’ve set the table about the core of my approach, let’s delve into the systemic practice that I’ve refined over time. It’s about scoring trade opportunities, which directly leads us into the next section. There, I’ll break down exactly how I score potential trades and how this system safeguards my capital while also aligning with my risk tolerance. It’s all about making smart bets, not just any bets.
Scoring Trade Opportunities: A Quantitative Approach to Risk Allocation
I’m going to delve into one of the cornerstones of my trading risk management – the trade scoring system. Think of it as a tool that empowers you to judge the potential success of a trade by allocating a quantifiable score to each opportunity. It’s my go-to technique to help decide how much capital to risk in each position. The process is methodical, reducing the emotional influences that can lead to hasty decisions.
You’re going to find out about how each score associates with a distinct level of confidence in a trade. Here’s my breakdown:
- If a position has backing from just one or two technical tools, I’m cautious, giving it a 50% score.
- A trade with three tools in agreement bumps that score up to 70%.
- And if I see four or more confirmatory tools, I’m looking at an 80% score.These aren’t random numbers; they stem from a deep analysis of past trade outcomes and are continually refined.
I didn’t invent these rules on my own. Because of my previous education and training, the scoring system tool is one that I have learned, but then I modified it to suit my style and what I am comfortable with.
Therefore, these rules are not to be applied as they are. The most important thing is the tool, but each trader’s details will be modified according to their style.
This scoring method paves the way for determining what part of my capital to risk. So how does it translate into actual position sizes? Well,
- With a 50% score, I’m not going too wild; I only risk 0.5% of my capital.
- If the score is at 70%, my confidence is higher and I’ll consider risking up to 1% of my capital.
- And for those strong 80% scores, I’m prepared to risk as much as 2%.It’s all about matching my level of risk with the strength of the trade setup. As a result, I’ve got a solid shield in place, even if a position doesn’t pan out the way I expected.
Moving on from how I score and allocate risks for individual trades, I’ll next discuss how I incorporate the Risk/Reward Ratio into my risk management strategy. This ratio is paramount in mapping out my potential trade outcomes, allowing me to be profitable even with a win-lose ratio that might not seem favorable at first glance.
Critical Risk/Reward Considerations and Performance Analysis
You’re going to find out about the indispensable tool I use called the Risk/Reward Ratio (RRR). Again, this is not something new, this is something talked about in every trading book and every trading training course.
Now, don’t worry too much about this sounding complex, it’s really pretty simple at its core. Every trade I consider must maintain at least a 2:1 RRR. This means that for every dollar I’m willing to lose, I aim to make two dollars in profit. This isn’t just about playing it safe; it’s about being smart with my money.
In my opinion, when it comes to trading, the numbers tell the story. Currently, my trading record shows a win-lose ratio of 6-11. I get it, that might not look great at first glance. But here’s the kicker: thanks to my RRR strategy, those numbers have still translated to a neat 2.71% in profits. It goes to show that a strategic risk management plan trumps the raw win-loss record.
A lot is happening very quickly in the trading world, and performance review is a non-stop task. I constantly scrutinize my strategy, refine my methods, and ensure that I stay in tune with the markets. I’m proud to say that applying these critical risk/reward principles has been pivotal in trading with consistency and discipline. By keeping this balance, I protect my downside while allowing successful trades to amplify my returns.
Staying disciplined with these rules has a surprising side effect: peace of merit. When the markets are swirling with opportunities that carry varying degrees of uncertainty, my guidelines hold firm. This way, I’m not tossed by every wind, and I can trade with confidence knowing that my system is tried and true, waiting to catch those consistent profits while avoiding catastrophic losses.
Prudent Position Limits and Staying the Course with Demo Trading
If you’re immersing yourself into the world of trading, remember the golden rule: never overexpose your capital. It’s easy to get caught up in the moment and stack up trades, hoping that more is better. Here’s the kicker: it isn’t. The strategy I like to leverage is setting firm position limits to safeguard my portfolio. This means I’m not putting all my eggs in one basket, and each trade is only a small fraction of the total capital. By capping the risk on each position and the total number of concurrent positions, I maintain strategic control over my exposure to market whims.
Now, what’s really crucial in the process is not rushing into real-money trading. My current arena is the demo account, a fantastic sandbox for testing strategies and refining skills without risking actual bucks. I’ve established specific targets for myself, and these aren’t just arbitrary numbers. I have clear, measurable objectives that need to be met prior to graduating to the real deal. I really hope that you, as a trader, appreciate the importance of this step. It teaches patience, discipline, and gives you a taste of decision-making under mock market conditions.
In my next diary entry, expect to see these goals laid out. I’ll provide insights into the stepping stones I’ve set for myself before hitting the live trading floor. It’s a thrilling expedition, and the diary will be a window into the preparation it requires. Stay tuned, and in the meantime, I’d love to hear your feedback. Let’s share experiences and insights. Are you on a demo account too, or are you already navigating the live markets? What are the guiding principles of your risk management strategy? Sharing knowledge is key to growth in the trading community, and your input could be incredibly valuable to fellow readers. Together, let’s hone our strategies for the relentless but rewarding tide of the trading seas.
The Investor
Saturday 6 July 2024
About The Author
I started to look into individual stocks in January 2022. I created this diary initially for myself to track my investing progress, and second, as a place where I can share my ideas publicly hoping that others will share their ideas and learn from each other, and lastly as an online business where some links that I share are affiliate links, and if anybody bought anything by clicking those links, I will get a commission based on that successful sale, which of course will not affect the price that you are buying the product or service at.
For more detailed information on my affiliate disclosure please refer to the Full Affiliate Disclosure page, and if you are interested in building your own online business you can check this post here.
Furthermore, this site is in no way or form is giving any financial or investing advice, nor it is encouraging or discouraging people to buy or sell any financial instrument. This is a personal diary in which I track my own progress and share it for informational, educational, and entertainment purposes.
Hello. I think that when it comes to trading it’s all about rules. It’s all about following rules without any emotion. Being like a robot. The more that you can be like a robot and just follow the rules the better you will do in trading. It’s often boring if you’re doing it right. But that’s how you can stay profitable.
Hello Jake,
You’ve hit the nail on the head! Trading is indeed about having a set of well-defined rules and following them without letting emotions interfere. The more we can stick to our rules and trade with discipline, the better our chances of achieving consistent profits.
It might sound counterintuitive, but successful trading often feels monotonous because it’s about sticking to a plan and avoiding impulsive decisions. This robotic approach, as you mentioned, helps maintain objectivity and reduces the risk of emotional trading errors.
I’m glad to see we share the same perspective on the importance of rules in trading. Let’s continue to emphasize disciplined, rule-based trading for long-term success.
The Investor
You are absolutely right, following the rules and having a solid risk management strategy are essential to avoid catastrophe. Many people are hung up on the win/loss ratio – which is important of course. But the size of the winners vs. loosers is also important. One runner can offset sometimes more than one loss. You risk management looks solid as well. I find knowing when to cut losses – as early as possible – essential because often one delays closing a looser because maybe it turns around… and a small loss turns into a big one. What is your stop-loss strategy? It looks like you got the emotions out of the way, which is great. Any tips on how to achieve this and stop second-guessing oneself? All the best with your trading!
Hello MD,
Thank you for your insightful comment! You’re absolutely right; a solid risk management strategy and knowing when to cut losses are crucial for long-term success in trading. The win/loss ratio is important, but the size of the winners versus losers can significantly impact overall profitability. One good trade can often offset multiple smaller losses, highlighting the importance of carefully managing each trade.
Regarding my stop-loss strategy, I don’t use a single approach. It varies depending on the specific trade setup. Sometimes I set my stop-loss at the previous high or low, and other times below or above a broken trendline, or key support and resistance levels. This flexibility allows me to adapt to different market conditions and trade setups.
As for managing emotions, it’s something I am continually working on. In my point of view achieving emotional control in trading often comes from developing and refining a trading methodology that incorporates tools and styles you are comfortable with. It’s a journey, and while I’m not there yet, I’m getting closer with each step.
Thank you again for your support and for sharing your thoughts. Best of luck with your trading!
Best regard
I found your article on essential trading risk management rules to be incredibly informative and practical! Your emphasis on the importance of position sizing and stop-loss orders really resonated with me, as these are often overlooked by many traders. I appreciated the clear examples you provided, particularly on calculating risk-to-reward ratios. One question I had was about your personal strategy—how often do you review and adjust your risk management rules based on market conditions? Also, do you have any specific tips for beginners on how to stay disciplined with their risk management plan? Your insights have certainly added value to my trading approach. Thank you for sharing your expertise!
Hello Jessica,
I’m glad you found the article on essential trading risk management rules informative and practical.
To answer your questions:
Reviewing and Adjusting Risk Management Rules: I don’t actually review my risk management rules regularly, In the diary entry that came next to this one I described my highly dynamic and elastic risk management plan that highly depends on the number of confirmations I get in any single trade. Based on the confirmations I decide on how much I want to risk on this particular trade.
Tips for Beginners on Staying Disciplined: Here are a few tips for beginners:
Create a Trading Plan: Outline your risk management rules, including position sizing and stop-loss levels, and stick to it.Keep a Trading Journal: Document your trades, including the rationale behind them, to analyze what works and what doesn’t. I actually have an Google Sheet in which I record all my trades, including what confirmations I received, and which risk plan I used.Practice with a Demo Account: Before risking real money, use a demo account to practice your strategies and develop discipline. I am still on a Demo Account and will not leave it until I achieve certain goals that I have set for myself. Those goals are also mentioned in the next diary entry.Stay Educated: Continuously learn and update your knowledge about trading and market conditions. I have books and follow a person on telegram who keeps on giving training.Set Realistic Goals: Aim for consistent, modest profits rather than trying to get rich quickly. This part is also taken care of by the risk to reward ration that one chooses within the risk management plan
For more detailed strategies and insights, I invite you to explore other articles on my blog.
Thank you for your engagement and for being a part of our trading community!