How to Keep Your Losses Small

Risk
management is a vital part of trading success. Keeping losses small and
protecting your capital will not only help you grow your account but also
prevent you from giving back to the market what you got. This is a quick guide
on how you can do that.

First, you
need to decide your position size and by that I mean how much you want to risk
on a particular trade be it 0.5%, 1%, 2% and so on. You decide based on your
conviction in that trade idea, but if you're not yet experienced in that part, you
can just use a fixed percentage for all your trades.

Second,
decide where you're going to put your stop loss compared to your entry. For
example, I personally use both the ADR (average daily range) and some technicals
just for structure, so that my stop loss is neither too close nor too far as
you should give your trades some room “to breath”. If you put your stop losses
too close, you increase your risk of being stopped out prematurely.  

Your trade
size will be calculated based on the distance between your entry, your stop
loss and the amount you decided to risk, so in the end if you end up being
stopped out you lose only that planned amount. Never move your stop loss
further out if the price is going against you.

Third, for
entries some use technicals and some catalysts (fundamental developments like
economic data, news, reports and so on). I prefer catalysts because I can
expect if that particular thing will move the market in my direction. If it
starts to do the opposite and it even breaks the levels I marked as kind of
barriers, then I cut the trade because it's not playing out as I expected it
to.

There’s no
reason for me to keep the trade active because of hope and end up taking the
full loss. I just close it even if in loss and move on to the next opportunity.
That's how you keep losses small. As Paul Tudor Jones once said “never wishing,
always trading”.

For a
technical entry it would be kind of the same, so if the price starts to go in
the opposite direction and it breaches strong levels that you expected to hold,
then it's better to close and move on.

If you use catalysts,
you have the reason in that moment to trade, while with a technical entry you
can never know which level will hold, so you end up taking more losses and
being stopped out more often and that will also make you overtrade as you will
take more entries. Waiting for catalysts prevents you from overtrading.

This article
was written by Giuseppe Dellamotta.