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Fixed Fractional Risk To Equity
I love using a broker that uses units over the standard 10K or 100K lots, and I think I would never go back. The reason being that I can do EXACT fixed fractional entries on a position. My risk to equity is usually 2%, unless it is a trade I am less certain of (more risky looking) in which case I will initially enter with 1% and enter again on trend confirmation.
I calculate this based on the distance to my stop, which is arrived at via technical studies and NOT on how much I am willing to lose. So I consider the trade setup first, and calculate the entry position (number of units) based upon my stop size at a fixed 2%. I do not CARE how wide a stop is, because its always going to be a fixed fractional risk to my equity. It can be 500 pips wide, I will still only be risking my desired about of captial on it. This method has FREED ME to be able to put stops where I want them, and not worry about having stops that are too wide or too tight. They just go where they have to go. The only consideration then is how this fractional entry weighs up compared to a potential target, and ultimately I have to decide if it seems worth it. I only think in terms of percentages - pips are merely the vehicle and are worth different amounts on different trades. RISK is fixed according to sensible and conservative money management rules. I see a trade setup, I firstly want to know where I would get out of it if it goes wrong (stop position)... Thinking about a pip being worth something in its own right (as if it were a coin) is bad, it should be what ever you want it to be. YOU decide what a pip is worth. With many brokers this is not possible because they lock you in at a minimum of 1 dollar. For many new traders, this is something that they need to think about but probably don't. I imagine that a lot of them are under-capitalized compared to having 1 pip = 1 dollar, because every time you lose some money, the value of that pip has just gone UP. Do you see? Your risk goes up because your lowest unit is fixed at 1 dollar, where as if you were smart you would lower the value of that pip accordingly! If you fund your account with 10K, a pip means one thing, but by the time its down to 6K it means another. You become increasingly over-geared, so stop sizes become more and more scary, so you have to tighten them and... It's like being squeezed in a vice. I'm currently in a trade that has a 177 pip stop, behind a major swing point low, where I WANT it to be, not where I feel "comfortable" having it (i.e. risk-to-equity wise). Comfort with stop size just doesn't come into it - its where I think it ought to go, and I know that that 177 pips equals precisely 2%. In the old days I used to say things to myself like "Hmmm 53 pip stop sounds a bit wide, I'll make it 35" --- this is because I was thinking in terms of 1 pip = 1 dollar. This would be less of an issue if you had a large amount of funding in your account, but I imagine that not many new traders fund their accounts with more than say 30K. I imagine 10 and 20K are very common. So anyhow, I don't do that anymore. I risk my fixed 2%, give or take the interest. In this case, interest is ticking in my favour, so this 2% is going down a little each day. On a high yielder (if you held it long enough) you could even erode this risk via interest if things held for long enough, and be in the black even if you get stopped out, a method commonly known as carry trading. Pretty damn conservative huh? You'd think I read all this in a book somewhere (which I did, i.e. every good trading book I ever read) - but I STILL had to lose some of my hard earned over and over again until this way of thinking finally SANK IN... Point is, fixed fractional risk-to-margin : highly recommended if you want to put stops in the right place without breaking out into a sweat. |
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