The following examples are just very basic and only to illustrate how managing your trade money is more important than stock picking. In all the following cases, we will start with $10,000 and play a typical bull market trade, like buying WYNN in 2003. If you had used all your money to buy and hold WYNN from 1/2/2003, you would had made 809%, or 55% a year. Not bad, right? However, your drawdown would have been 42% of your position!!! That's right, during those years you would have lost almost half or your gains without knowing if the markets were ever going to come back. Would you have held? Investing 10% of your initial capital each month would had fared much better, with a net profit of 984.87 % but with a drawdown of 50%. Finally, investing 30% of your capital each month, would have given you an incredible win of 1350.28 % with a maximum drawdown of 48.35 %. As you can tell by this simple example, is not size that matters, but position sizing! Money management is the key to success, but performing the difficult statistical calculations needed for maximizing your trades is beyond the possibilities of even the most experience traders. Why! You don't have a back room full of number crunchers behind you providing you that vital information. As you just saw, a good money management scheme can produce outstanding results when things go well. What about when things go bad? Let's see what happens when we trade WM, a bull market play from 2003 to 2007 and a bear play since mid 2007. With a buy and hold trade, you would have lost -38.21 % of your money. Investing 10% at the beginning of each month, you would have lost -117.70 % of your money! With a careful money management plan, however, you could had made 9.17 % risking only 0.4% of your capital, and even 31.38% risking just 9% of your capital. Remember, these are the same trades, no system involved, no stock picking. Recommend this article...
Last update : 15-01-2008 10:16
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