Why have low risk and low reward? Or high risk and high reward? Why can’t we as traders just moderate the risk to reward? Wouldn’t that make more sense?
I have read and heard traders say you shouldn’t risk more than 1% of your money on any one trade. I am sure you have also heard this many times, too. But that isn’t very realistic for retail traders with smaller accounts and what happens time and time again is those traders get frustrated trading 1% and then blow their accounts. And to be honest a lot of traders are on what experts would call micro accounts and that is fine. The whole you need XXXX amount of money to trade is now dead in the internet world. You can open an account with a dollar! And some platforms you can even trade with that dollar! I know that is a ridiculous account but it is only an example.
What is a micro account?
I would say a micro account is any account with a balance below $500 with between $100 and $300 being the most common. Let’s be honest a lot of newer traders don’t have mountains of money available to trade and some traders are not comfortable trading with large amounts of capital which is fine. Let me say that again. It is fine! If you can’t make money with 500 you won’t be able to make money with 50,000! Even if you have a lot of money available I would recommend you trade on a smaller account after you have finished your demo trading before moving on to a large account.
Medium Risk?
So what do I mean by medium risk and medium reward? Putting it simply it is using 4-5% of your account per trade rather than just 1% meaning it is medium risk rather than a high risk at 10%+
If you add a x1.5 profit ratio to this then you are increasing your reward while decreasing your risk. 1.5 simply means you risk $1 for the return of $1.50 or more. If the trade will not give you back at least 1.5 to 1 on your money then you don’t take it. So if you have a 50/50 system meaning you profit 50% of the time and you lose 50% of the time you will still make money.
Five losses at $1 = minus $5
Five profits at $1.50 = $7.50
OK?
When you are increasing the amount of percentage you are increasing your ammunition in the trade, you are making a bigger bang so to speak.
For example:
Balance: $500
1% per trade=$5
Profit at x1.5=$7.50
Now if we use the same rule of profit but increase the percentage to 5%
Risk $25
But your reward is $37.50
Now I know that no trading system is perfect and you are going to have losing trades. But if you have 20 losing trades in a row then there is something wrong with either your system or you. If you have a system that is only giving you a 50/50 split which to be honest is a pretty rubbish system then you need to increase your requirement on your take profit to 1:2 meaning you are risking $1 for a $2 dollar reward!
Risk: $25
Reward: $50
Being Consistent!
Now the next part is important! If you are going to use this system then you must use the same amount of risk every time. If you use higher risk sometimes and lower risk other times then you are counting on luck on which trade will go your way.
First trade: 1% risk
Winning trade!! $10
Second trade: 5% risk
Losing trade! Minus $25
Minus $15
We don’t rely on luck we rely on the percentages and using our edge with the trading system. And like with your trading system your money management system also has to be consistent.
Let me show you a trade. This is a trade on XTB it is only a small account because I haven’t traded with XTB on a real account before so I have $355 in there. I started with $290.
So this is a trade I am putting on the GBP/USD as you can see it is an order not a market entry.
Risk is $15.76 which is around 5% give or take a little is fine but I try to keep it under the 5% but 5.2% would be just fine.
My Take Profit is $47.30 which is just over the 1:3 ratio
Paul Davids Writer and Trader 