Dec 192011

It was brought to my attention that there is a trader who has a very consistent daily profit over the past few months.  So I took a look at his stats:

This is very familiar to me because this is how I’ve been trading for the past couple years.  I typically used a 6 pt stop and have even taken 10 pt losses (about $500/contract).

This can “work”, but is it optimal?  I have been trading 2 contracts for 2 years now because I was not comfortable increasing size knowing that at $500/contract, a $2k loss could happen any time.  And what if I had two $2k losses?  It’s bound to happen.  So that fear kept me at 2 contracts.

Even trading 2 contracts, I’m still scared because a $1k loss could be around the corner.  So every time I put on a trade I know this could cost me $1k.  This is a bit stressful.  The result is I’d scratch trades that came back to my entry, and I scratched a lot of winners that way.  And I’m convinced that this isn’t the best way for me.

Lately I’ve been learning a lot from RomaTrader & GoldTrader740 on Twitter and how they use small stops, 2 pts on average.  RomaTrader will aggressively trail his stop so I’d say his average loss is probably much less, I’d guess around 1 pt. He’s not fearful, when he sees a good opportunity he takes it.  There is a lot to learn from these guys.

RomaTrader has made a very strong case for tight stops and says you can just re-enter if you want so best to just get out.  So why wouldn’t one just stop out at -2 and look for another entry?

Commissions is one reason.  Every time one does that it costs $3.80/contract (or more depending on your broker).  So that weighs in the decision making, at least subconsciously.   When I’ve tried using “tight” stops, it was usually 4 pts.  And when I stop out -4 and re-enter, I usually re-enter at a worse price than my stop out, meaning it would have been better not to stop out.  So I had a delima and that’s how stops got to be more flexible and quite large.

What I learned from these two traders is that my timing was off.  I knew I was always too early.  GoldTrader says to watch and see how it trades there.  You might miss a few but you are less likely to be early.  Entering early requires a bigger stop.  If one enters late, one can use the recent high/low for the stop.  So one advantage is smaller stops.  The disadvantage is missing a few.  There’s no perfect answer here so everyone has to find out what works best for them.

For the past month I’ve been trying my best to use 2 pt stops and trail aggressively.  It hasn’t been easy and my performance has decreased a bit.  But I really feel like I’m on the right track.  When I know a trade will cost me at most $250 for 2 contracts, I have less fear to take it.  As soon as it moves my way I trail my stop and then my risk becomes $100 or even $0.  When a loss is on average $100 and winners are $300-$500, I really don’t care about taking losses.

At least in theory.  In reality I really hate losing and I hate being wrong.  But I am making progress in accepting this reality.  And once in a while a really good R:R comes up where I can risk 3-4 ticks with a potential reward of 4 pts.  These types of trades don’t have to win often to be profitable.  So I feel I must take these.  One winner will make up for several losers.

Lately I compute the R:R for every trade and if I can’t get 2:1 on the first scale I will pass on the trade.  As a result I’m taking less trades, but so far the results are encouraging.  My results are improving each week.

I’m rewriting my trading plan again, it’s a never-ending process.  But with input from RomaTrader & GoldTrader, I really think I have a plan that will work well.  I’ll trade this plan in January without any fear.  My max loss will be 2.5 pts/contract and I’ll have loss limits for each session, day,  & week.  I’ll keep detailed records on every trade so I can track my progress of each setup.  I’ll have a written plan before the start of each session and I’ll only trade my setups. I’ll review my trades every day.

I’m really excited about this and I can’t wait for January 2.  In the mean time I’m working on my plan, practicing on sim, working on some programming projects, and just enjoying some time off.



  One Response to “A look at risk reward”

  1. I saw this on OpenTrader, too. Interesting style, but my risk management is closer to where you’re going. Very good advice on entries. I won’t enter until I see reversal patterns on the volume delta at my points of interest. in the last six months, I have begun scaling into entries when I see the patterns beginning to form. For me, it helps to use range bars so I know the exact prices where my entries will either be triggered or my current thesis negated.

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