Capital preservation is one of the most important things to consider when you are trading. You may have a system that works, but if you lost all your money on 1 trade you cannot make money with your system.
Capital preservation is one of the most important things to consider when you are trading. You may have a system that works, but if you lost all your money on 1 trade you cannot make money with your system. This is probably one of the most overlooked aspects of trading.
The market can be very volatile at times. No matter how good of a trader you are the market will always give you surprises. A 200-point down day in the S&P can be followed by a 300-point gain in the S&P. It can be stressful for someone trying to time the market.
It is for this reason that many people believe that you cannot time the market. They believe buying and holding a corporation is the only way to actually make money in the stock market. In fact, there is a theory out there called the Efficient Market Hypothesis that says beating the market is impossible.
That could certainly seem to be true. Many professional traders may have a losing streak from time to time. During this streak there may even be times were these professional traders could lose 10 consecutive trades in a row.
With even professional traders having so many losses in a streak, how can anyone seem to make money trading in the stock market?
Limiting your losses is the only way. Just think about it if you have $1000 and you risk even just $100 per trade you can still lose all your money. If you lose 10 trades your money would be gone. But if you had $1000 and only risk $10 per trade look what happens. You can lose 10 trades in a row and still have $900. Now when you big winner comes along you have money to invest in it.
Some basic rules you should follow when trading the stock market are.
1. Never risk more than 2% of your account on any 1 trade. If you never risk more than 2% of your account on any 1 trade you will never lose all your money. You will be able to even have a bad luck spree and not lose all of your money.
2. Never risk more than 10% of your account at any time. Now I am not saying you can’t use more than 10% of your account at any 1 time just don’t risk more. For example, if you buy a stock at $52 and put a stop at $50 you are only risking $2.
3. Never trade all of your money. It would help if you always had capital sitting on the sidelines when you are trading. It is a hard rule for many traders to follow but will help you in the long run.
The other thing you must be able to do is to let your winners ride. The more money you are making every time you are right the less often you have to be right. If you make an average of $3 when you are right and lose only $1 when you are wrong you can make money provided are right at least 30% of the time.
Capital management is all about discipline. If you find yourself going all in on your trades you will not last very long in the market.
THE AUTHOR: Shaun Rosenberg
