Money management is one thing that sets the professional trader apart from the amateur. Whether you are day trading, swing trading or tick trading, you need money management. Why is money management so important? Simply put, it helps you keep the money you make and guards against blowing your trading account.
Why do you need money management?
Trading is a high risk high reward activity. Unless you approach trading with a calculated mindset, the risk of ruin, aka blowing your account, is all too real. The higher the trading frequency, the higher the trade volume and turnover, the more amplified the risk. Tick trading is vulnerable on both counts. As each trade only lasts a few seconds, you can very easily rack up a large volume of trades in a matter of minutes. It is not at all uncommon for compulsive traders with quick fingers to make say a hundred trades in half an hour! You would know what I mean if you have been demo trading with the BonusTrade app.
Perhaps you can see how that can lead a novice tick trader to ruin if you don’t have a strategy, a trading plan, and a set of money management rules. You will definitely need all of the above. I’ve talked about trading plans and trading strategies quite a bit in this blog. Let’s dive into the nitty gritty of money management here.
What is money management?
Money management is essentially a set of rules to make sure that you get to stay in the game, not blow your account, make money trading sustainably, and ultimately, cash out your winnings.
To figure out what money management rules work best for you, you’ll need to take into account your risk and reward preferences and your trading objectives. Quantify them, put some numbers to them.
What is your start up risk capital?
This is your trading funds, the amount of money you can “afford to lose”.
What stake are you comfortable with trading?
This should be a sensible percentage of your overall trading funds. Somewhere around 1-5% is about right for most tick traders.
What is your trading goal per session?
Be realistic here. It can be an absolute dollar amount like $100, or a percentage like a 10% return on your trading funds.
How long is a “session”?
This is the time you live trade with undivided attention. For tick trading, a typical session could be 10 minutes. You can trade a lot in 10 minutes. I do not recommend going over 30 minutes in one sitting.
What is your ultimate objective with regard to your trading funds?
It’s quite OK to expect to double your funds in X days since trading is a high risk high reward activity, as long as you have a good trading strategy you can count on.
When do you cut your losses?
This is the sum total of losses that you are OK to take. When you hit your loss threshold, you must quit for the session!
How often do you trade?
This should be determined by the above parameters. How often you trade will be part of your money management rules.
With these parameters sorted, you can now formulate your money management rules.
How does it work?
Let’s walk through an example with the aforementioned parameters.
Start up trading funds: $1,000
Comfortable stake: $20 (2% of trading funds)
Session trading goal: $100 (increase account balance by)
Ultimate objective: Double trading capital every 2 weeks
Session loss limit: $50
How often: 1 session per day maximum
These numbers are simply for illustration purposes. Your own numbers could be much bigger or smaller. You can scale these numbers up and down and they would work just as well.
The limits you impose are there so you don’t get too carried away. We all know what would happen if you don’t know when to stop. The idea is to quit once your winning goal is accomplished so that you walk away with cash in your pocket so to speak. When you keep doing that, your account balance will grow to meet your ultimate trading objective.
Reaching your trading goal
So following on from our walkthrough example, how can you be sure to make $100 in one session trading $20 stakes?
For tick trading, a typical payout is 100% of your stake. That means every loss cancels a win, or every win makes up for a loss. So to make $100 trading $20 stakes, you need 1 win for every loss plus 5 more wins to make 5 net wins.
7 wins $140, 2 losses $40 – net results: Up $100, win rate 78% (7/9)
8 wins $160, 3 losses $60 – net results: Up $100, win rate 73% (8/11)
15 wins $300, 10 losses $200 – net results: Up $100, win rate 60% (15/25)
As you can see, you need a pretty good trading strategy to get you those high win rates. Do have a look around this blog for articles on trading strategies. You can still get 5 net wins with a lower win rate, you will just need to trade a lot more. It’s far more efficient and reliable to have a solid trading strategy to begin with.
As you can see, a winning strategy is a must without which money management is pointless.
Rules are rules
Remember, rules are rules. They are there for a very good reason. If you break your own rules, it will not bode well for your trading. Beware there is also the temptation to make up or change the rules as you go. This is really no different from breaking your own rules. Don’t do it.
That said, you may well find that your original rules can be tweaked to better effects. By all means revise your rules based on what you’ve learned from live trading. Review your money management rules after a trading session and revise and refine them as necessary, just don’t do it in mid-session! And don’t do it too often because it would be hard to keep track of your own rules!
Have you downloaded the BonusTrade app yet? You can play around with live demo trading with $10,000 of virtual funds as soon as you install the app. No sign up necessary.