How many shares or contracts should you take per trade? It’s a critical question, one most traders don’t really know how to answer properly. Poor position sizing strategies are the reason behind almost every strategi forex dr wan pdf printer of account blowouts.
Van used to refer to this concept as money management, but that is a very confusing term. When we looked it up on the Internet, the only people who used it the way Van uses it were professional gamblers. Money management as defined by other people seems to mean controlling your personal spending, or giving your money to others for them to manage, or risk control, or making the maximum gain—the list goes on and on. I make my position for any one trade? Once a trader has established the discipline to keep their stop loss on every trade, without question the most important area of trading is position sizing. Position sizing is the part of your trading system that tells you how many shares or contracts to take per trade.
Poor position sizing is the reason behind almost every instance of account blowouts. Preservation of capital is the most important concept for those who want to stay in the trading game for the long haul. Why is Position Sizing so Important? To prove this point, we’ve done many simulated games in which everyone gets the same trades. At the end of the simulation, 100 different people will have 100 different final equities, with the exception of those who go bankrupt.
100,000, and they all got the same trades. Position sizing and individual psychology were the only two factors involved—which shows just how important position sizing really is. 25, you are out of the trade. 173 shares, rounded down to the nearest share. 00 per share, your capital would begin to vanish quickly.
Again, work it out for yourself. 25 stocks without using any borrowing power or margin, as the stockbrokers call it. You should leave it on the gambling tables in Las Vegas where it belongs. Protecting your initial capital by employing effective position sizing strategies is vital if you want to trade and stay in the markets over the long term. Van believes that people who understand position sizing and have a reasonably good system can usually meet their objectives through developing the right position sizing strategy. So many traders who trade a new strategy start by immediately risking the full amount. The problem is that most traders have a much greater chance of losing than they do of winning while they learn the intricacies of trading the new strategy.
Make sure that your position sizing algorithm helps you reduce the position size when your account equity is dropping. The gambler’s fallacy can be paraphrased like this: after a losing streak, the next bet has a better chance of being a winner. If that’s your belief, you’ll be tempted to increase your position size when you shouldn’t. Don’t meet time-based profit goals by increasing your position size. This thought process has led to many huge losses.
Stick to your position sizing plan! We hope this information will help guide you toward a mindset that values capital preservation. I’ve talked to many folks who have blown up their accounts. I don’t think I’ve heard one person say that he or she took small loss after small loss until the account went down to zero. Without fail, the story of the blown-up account involved inappropriately large position sizes or huge price moves, and sometimes a combination of the two. This is a simulation game developed by Dr. Tharp and modeled after his famous marble game that he plays during workshops.
You not only learn about position sizing, you also get to experience how big gains and big losses effect you. This helps you better understand how you might react to real market ups and downs. How much do I risk on each position? Properly manage your risk and you’ll be on your way to profits.
Do it poorly and you’ll blow up your account. If you aren’t familiar yet with how R-multiples work, the game is a great hands-on way to learn. You’ll also work with advanced systems concepts like probability vs. As you progress, the game changes systems, so you can experience what it’s like to trade different probabilities and expectancies. Starting at level 5, you’ll have the option of going long or short on a trade, which means you can go with either the probability or the expectancy. Hopefully, you’ll learn how dangerous it is to bet against the expectancy, even though you get to “be right” more often. In Levels 6 through 10, you earn big R-multiples by letting your profits run on a winning position.