Day-Trading Money Management and How it Effects Your Psychology
Money management is very import in Day-Trading. Warren Buffet’s golden rule was to protect your capital and this must be followed in Day-Trading.
To protect your trading capital or trading bank in Day-Trading the use of a stop-loss is normally used.
It is important to have a profit target as well. This means that you have a pre-determined maximum loss as well as a preset profit level.
Dave a Professional E minis Day-Trader believes that it is vital to have at least a two to one profit to loss ratio. That is that your profit target is at least twice what your stop loss is.
This is important because if your profit target and stop loss are the same, it means that you need to be getting it right at least 70% of the time to be making any money. However if you have a two to one ratio, even if you are only getting it right 50% of the time you are still making heaps of money.
More importantly by having this two to one ratio it makes it very difficult to lose money. You need to be getting it wrong more than 70% of the time to start losing money.
Another important part of money management is to be able to start off Day-Trading with a small amount of money. When first learning it is likely that you will make mistakes, so it is better to make a mistake with a little bit of money rather than a lot. If you make a mistake with a small amount of money you are likely to continue, however if you make a mistake with a large amount of money typically you will feel a lot of pain and therefore stop trading, never learning from your mistake.
When I first started trading I was using a strategy called credit put spreads. I was doing very well for about a year, right until Hurricane Katrina. In the two days following Hurricane Katrina I lost $80,000 which was all of what I had made the previous year, and then some!
After this experience it took me over a year before I could place a trade again.
If I had learnt the same lesson by only losing a few thousand dollars I would have been able to get back into trading a lot faster.
Because, is losing a few thousand dollars the end of the world? Most people would say no. Is losing $80,000 the end of the world? Some people would say yes and some people would say no, I can tell you it is not the end of the world, but you can see it from there!
Also when you are first learning to Day-Trade or any trading, by starting with a small amount of money it takes the pressure of trading. The psychology or mindset is the most important part of trading.
If you start off with a large amount of money, an amount that will cause you a lot of pain if you lose, this will greatly effect how you trade. In this case great emotion is caused when placing a trade. You may not even be able to place the trade, as your emotions will overwhelm you.
Also by using a large amount of money causing pressure on your emotions you can start to worry about the consequences of losing and focus on the negative. This will actually create this reality to come about.
If you are focusing or worrying about the consequences of losing, when you have a few losses, which is inevitable when trading, you will start to second guess yourself and your system. This will then mean you will make mistakes, by not taking trades you are suppose too or cut winning trades short, and fulfill what you are focusing on.
The same can happen in reverse. If you start by using a large amount of money and you have a few winning trades, you can get over cocky and start places trades that are not really there, “close enough” and thereby mess up your signals and trading system.
By Day-Trading using E mini Futures this allows you to start with a very small amount of money. You can start with as little as $2,000 in your account.
At this level you start with just one contract where you are risking only $50 to make $100 per trade. This is a level where most people can afford to start and their psychology can handle it.
After this you can slowly build up your trading account and the amount you are risking. Within a year it is possible to be making over $10,000 per month.