When it comes to money management, I tend to give the same advice as most experienced traders. Risk a modest percentage of your account each time you trade, and keep it consistent. That amount could be anywhere from 1%-3%. If you are feeling really bold, you might push as high as 5% per trade. I would not recommend this, but I would say that is the absolute limit.
I once new an experienced trader who thought it was all right (for some reason) for a trader with a small account to risk 10% per trade in the beginning “just to get going.” I tried this in demo, and quickly concluded it was a terrible notion. It may or may not sound like a lot to you, but it is a fast way to blow an account.
But what I tend emphasize is the consistency part. If you usually risk 2% per trade, do not suddenly risk 1% or 3%. I feel like my reasoning for this is pretty straightforward (which I will explain momentarily). Recently though I stumbled across an argument for switching the percentages from trade to trade, and it seems worth considering.
Why Keep Investment Sizes Consistent?
There are a few different reasons why I suggest that you should always risk the same percentage of your account. The first reason is that it removes a layer of unpredictability from your trading. You will not find yourself in a situation where you suddenly lose an unexpectedly large amount of money because you happened to be feeling inappropriately confident about a trade that went wrong.
The second reason concerns the matter of confidence itself. If you are feeling vastly less confident about one trade than you do about most, that is not a reason to risk less on the trade. It is a reason to avoid taking the trade altogether. It does not meet your criteria, and you should simply not be taking it at all according to your system rules.
Suppose you are feeling vastly more confident about a trade than usual. It is intuitive to think of risking more money on a trade, but once again you should ask yourself why you feel so much more confident about this trade than the rest. This is really the same situation as the one above, except that the inferior trades are the rule was supposed to be exception, so arguably this is even worse. Once again you should not be taking inferior trades. You should only be taking trades that you feel the highest level of confidence about.
What is the Argument for Varying Investment Sizes?
Recently, I came across a different argument for varying investment sizes that I have heard before. The argument has nothing to do with the confidence levels that you associate with each of your trades. It has to do with the fact that some people psychologically struggle with investment sizes above a certain dollar amount.
For example, let’s say that you opened a binary options account with $250. You decide that you are going to keep your position sizes at 2% per trade. On your platform, you can take 60 Second trades with a minimum investment amount of $5. This happens to be exactly 2% of your account. If you lose a $5 trade, psychologically that may be painful, but probably not too hard to handle.
But imagine that over time your account grows, and eventually you are trading with $25,000. You have gotten used to taking 60 Second trades, but now 2% represents a much larger dollar amount. If you do the math, you would be risking $500 on each trade. Imagine losing $500 in just one minute. That is a lot harder to handle than losing $5.
For some traders, this is simply too much to cope with. Losing $5 may not cause you to go out of control emotionally, but losing $500 in such a short time span could easily cause you to go on tilt and start making all kinds of bad trading decisions.
For this reason there are some traders who think that you should restrict the percentage you invest on any given trade so that it stays beneath that psychological threshold for you to feel comfortable. So even if you are risking 2% per trade for a long time, eventually you might drop down to risking just 1% or even less.
There is nothing specifically wrong with this approach. It may actually be the right decision depending on your personality and your emotional disposition. If reducing your percentage over time helps you to maintain control over your emotions and your trading, ultimately that is going to be a profitable decision.
Limitations of Varying Investment Sizes
That having been said, there are still a couple limitations to this thinking that are worth addressing for the sake of perspective, even if you do decide to go with this plan to manage your money.
For one thing, you will be slowing down the growth of your account somewhat unnecessarily. One of the reasons that binary options trading is such an exciting pursuit compared to a 9-to-5 office job is the fact that you can make exponential gains. In a 9-to-5 job, growth is always going to be linear. With trading, you have compounding gains.
You can continue to take conservative risks and make more and more money on each of your trades so long as you keep winning. You can do exactly what you are doing now in 10 years, but be making 10 times the salary you are today.
If the psychological hurdles associated with this process are too much to handle, maybe you should sacrifice some of that exponential growth so that you can keep moving forward. But if you can handle it, you should, because exponential growth is one of the unique values of trading.
How Much Is “A Lot of Money?”
I read an interesting story written by a trader who was visiting Las Vegas and got into an elevator with a high-roller. Sadly a lot of the details of this story have left my mind, but I remember the basic gist. The high-roller had just lost something like $20,000 at the tables, and did not seem particularly distraught by this turn of events. The trader was astonished by this, and asked the high-roller why he was not concerned about losing all that money.
The high-roller responded with something like, “Well, $20,000 is a lot of money. It’s money I can afford to lose.”
This gave the trader pause, because to him, $20,000 was huge amount of money, money he would guard very closely if he were risking it in any sort of gamble. And yet the man in the elevator took this money completely for granted.
This made the trader stop and think about what he would consider to be “a lot of money.” Whereas the high-roller might not hesitate to risk $20,000, the trader in turn might not blink at the thought of risking $20.
But that meant that someone else getting into the elevator with an even smaller account might balk at the thought of losing $20. To that person, $20 might hold the same kind of value as $20,000 to the trader in question. Value cannot be simply measured by the number of zeros following a digit, but by the potential that money has if he continues to grow in an account.
How does this circle back around to our discussion on varying investment sizes? Well, you might balk at the idea of ever risking $20,000 on a single trade someday, even if that did represent 2% of your account. So you might feel a need to reduce that percentage to lower the dollar amount.
But someone else who has an even smaller account than you might feel the same way about whatever 2% of your account is right now. Whether that amount is $2 or $20 or $200, someone else could place considerably more value and psychological weight on it than you do.
The reality is, $20,000 is a lot of money, even if it is a small percentage of an account. It represents a huge potential for growth.
But for a small account, $20 is also a lot of money. It is literally the only value you have to work with right now. You need to build on that money, not lose it, to grow your account. Someone else might take $20,000 for granted, and it might blow your mind that they would. But if you take $20 for granted, you are doing the exact same thing at a smaller scale.
There are no strong conclusions I want to draw from this discussion, but I do think that it sheds some new perspective on how we define value in our accounts. The dollar amount is part of that measurement, for sure. You obviously can buy a lot more with $20,000 than you can with $20. But the percentage itself also is a key measure of value. And whether you have $20 or $20,000 to risk, that amount can help you buy a future, but only if you respect it. If that does not start when your account is small, you will never reach the point where you are looking at trading larger dollar amounts.