Considering all the elements required to be a successful short-term trader, the one often most overlooked is what I like to refer to as your personal ’trading ceiling’. After having traded for over 16 years, I have realised that there is literally only so much money I am able to make trading the market.
Before sounding pessimistic, let me clarify: there is only so much money I am able to make. This amount can vary remarkably depending on the individual. From the outside looking in, it would seem that there is the potential for making unlimited money in the market, and indeed there is - however, with that comes a myriad of risks. Herein lies my point; it is the risk that one is prepared to take that can ultimately determine how much you can make trading the market.
Often, we as traders spend most of our time refining our strategies, either technical or fundamental. We spend years searching for the Holy Grail indicator, when in reality, a simple strategy with proper risk management is probably going to stand the test of trading time.
The question then is, how do I figure out what risk I can tolerate? When I first began trading I withdrew R1000 from my local ATM. I put it in a small paper clipped pile on my desk. I used it as a reminder to get perspective. The numbers on the screen are REAL, they translate into more piles of real cash, like the cash that was on my desk. It helped me tremendously to get a perspective of the risk I could tolerate.
When deciding on risk tolerance as a trader, size does indeed matter. Too small and no one cares, too big and it can lead to quite some discomfort. Somewhere in between is your tolerance sweet spot. Your position size (risk) is what will allow you to tune into the correct emotional mind frame to act rationally and make better decisions. I’ve often found my smallest positions have given me my largest losses, simply because I did not pay enough attention to the problem in the beginning. My best trades are the ones where I’m invested enough emotionally to care what happens. I have found the exposure/risk/position size that allows me to function at my optimum.
Asking your broker, "How much should I buy?" is advice they can’t give you. It’s the one question only you can answer. This discovery of your own personal ’glass ceiling’ will allow you to become a far better trader. And as you become a better trader because of better risk management, remember that pile of cash on your desk. It’s real, it takes effort to make it, so respect it and look after it.
Neville has been a full-time client portfolio manager since 2002. He has completed a Unisa degree in Economics, The Registered Persons Exams (RPE’s), JSE Equity Traders Exam, RE5 (representative), RE1 (Key Individual) and RE3 (Hedge Funds). He has traded in numerous dealing rooms across South Africa, and has 16 year’s experience, his primary focus is on short-term trading strategies using derivative instruments.