Risk management – the ultimate formula for success in trading
The mother skill of trading – manage the downside
They say, over time any setup and any strategy will deliver 50/50 chance of success. Risk management is what will make the losing 50% of tries draw less on your account than the contribution of the winning 50%.
Assume you are always wrong! The ultimate state of humility is the foundation of risk management and consistent profitability in trading.
Elements of the Risk Management
Personal state management
Evaluation of the state of the market
Stock selection
Awareness of the state of the stock
Fundamental reasoning of the trade setup
Technical analysis of the setup
Hard stoploss
Soft/actual stop loss based on chart and LV2
Price targets
Size management
Day management – max daily loss; max number of trades; max number of losing trades
Daily trade zones – 6 to 9 premarket long, 9 to 10 short, 11 to 13 long, 13 to 15 short, 15:30 long
Reporting management
Trading routine – analyze thyself, analyze the market, analyze the stock fundamentals and technicals, find your stop, define the target, calculate size, enter and set hard stop, watch for sizing in or for the exit, record the trade, analyze the day, cycle back only if day rules permit.
Rules of risk management:
Trust not thyself! In trade, you boil with emotions. Automate risk management to take over, so it does not depend on you taking decisions while in turmoil. It is you who blew 30% of your account in 2 hours. It is you who kept losing for 3 years straight from 2019 through 2022. Trust not thyself! Trust in small losses, trust in quick exits, trust you are always wrong, trust your process, trust in applying it over and over again.
Assess your personal state, the state of the market and then the state of the stock. Enter only if they are all aligned.
Assume every trade you enter will go wrong and be ready for it.
Plan the opposite trade, be ready for both directions.
Can you read the chart and LV2? If you can’t, this is not your stock. Move over.
Hard stops every single time!
Never move a hard stop.
Act on your mental stop before the hard stop is reached. You can always reenter.
First element of the trade – define the soft stop loss – at what price the trade is broken?
Second element of the trade – define target – do I have at least 3 to 1 ratio?
Third element of the trade – define size based on max trade loss
Fourth element of the trade – when will I size up or size down?
Take at least 10 min after every trade to record it and evaluate your performance. It is the process that matters, not the result from one single trade. Do not enter a second trade within this 10 min period.
YOU ARE WRONG MOST OF THE TIME !!!! You don’t need to be right, in fact the MARKET will prove you wrong most of the time. You just need to be profitable. To be profitable, you need to know you are wrong, so you can stop your losses quickly, minimize the size of the average loss. Do not stay in a position that is not moving in the right direction only to prove yourself right. Being right is not profitable. THE MARKET IS ALWAYS RIGHT, I AM MOSTLY WRONG.
NO FOMO !! DO NOT GET IN WHEN THE PROS GET OUT !! If you miss an entry, you missed the trade. Do not catch the snake by the tale, it will turn and bite you. You must catch it by the head. Missed entry means the trade you planned or the setup you searched for is not there anymore: the risk is way higher, the R/r ratio is not in your favour, you are not with the PROS, but with the DUMB money. IF I AM LATE, I MUST WAIT FOR THE NEXT TRAIN. CATCHING THIS ONE IS A SUICIDE.
DO NOT OVERTRADE !!! PROS TRADE LESS THAN DUMB MONEY. You do not want to suffer a death by a thousand cuts. Focus on the best setups only where you have the highest probability for success. You are going to miss these AAA setups if you focus on 1-min scalps. ALWAYS THINK WHAT IS YOUR OPPORTUNITY COST. I TRADE LESS TO BE PROFITABLE. TRADING MORE INCREASES MY RISK OF LOSING.
ALWAYS SEARCH FOR THE LOW HANGING FRUIT. DO NOT COMPLICATE THINGS, DO NOT LOOK FOR CHALLENGES, DO NOT TRY TO PROVE YOURSELF SMART OR TRY TO BE A HERO. YOU NEED TO BE PROFITABLE. TO BE PROFITABLE, YOU NEED TO GO FOR THE LEAST RESISTANCE. The Market is an unpredictable beast, a force you cannot fight, a player you cannot outsmart. To be profitable, you must use the moments when it is merciful and is giving you a chance to win easily. Do not go for the hard and complicated trade, because by focusing on it, you would miss the easy and predictable one where your chance of success is much higher. You are not in this for the fame, you are in this for the money. I ONLY TRADE THE EASIEST AAA SETUPS, ONLY WHEN THE MARKET IS MERCIFUL TO ME AND IS HANGING ME AN OPPORTUNITY.
Successful traders talking about risk management:
Tim Sykes:
“Trading rule number one: cut losses quickly!”
He had a 43 min video posted on YouTube with him repeating in various tones and intonation “Cut losses quickly! Cut losses quickly. Quickly cut losses. Losses cut quickly! …” Full 43 minutes of it.
AllDayFaders (Twitter account @team3dstocks):
Ive ranted about this in the past. Look here, few ppl are as ruthless in reinforcing risk management as I am. I turn every question into a RM question. So im ALL about stops. but if u think that just having a stop is the answer to risk management u’re in for a surprise. why?
because PEOPLE CANCEL THEIR OWN STOPS !!! it drives me nuts when ppl think just having a stop will save them. Do u know how many ppl have a stop at 3.58, and cancel it when the stock starts to stall at 3.55??? or move it up to 3.65, then 3.70, then next thing u know it’s at 4?
I even tell ppl to set max daily loss amounts with their brokers. But when it hits, they actually CALL the goddamn broker & have it removed! So stop thinking a hard stop is this magical thing that’ll save u from ur own stupidity & stubbornness. A stop is only as good as your will
Too many people get lured into stubborn trades, and their excuse is always ” dont worry, i ll use a stop”. next thing u know they blow up b/c they either cancel the stops, reset it, or stop out and get back in the same trade 5 times in a row. death by multiple stop outs.
So i dont wanna hear this “i ll use a hard stop” bullshit. AVOID dangerous trades altogether unless u have the bankroll for it. period. so YES, i recommend hard stops, always have, always will. But i’d rather have u avoid the dangerous scenario in the 1st place.
it happened to me so many times in the past, and resulted in so many huge losses (since i would freeze hoping for a pullback that never came), that i now go in every trade expecting it. that’s the first step. go in every trade expecting that a random parabolic move can happen at ANY moment. once u expect that from EVERY trade, it already prepares ur brain for it, so when it does happen, there is no “freeze”. second step is to obviously have a plan for when it DOES happen. my automatic plan is always “cut the trade, cry and ask questions later”. yes, sometimes it reverses and u get bailed, but the few times it doesnt reverse are enough to ruin you for good. so it’s not worth it. i just market buy into the panic. no reason to lose more than ur 1R.
yes there is slippage, especially if u’re trapped with size. and yes sometimes ur own covering makes the squeeze worse, but again, if u’re on full size it’s because there was a high chance the trade was NOT supposed to reverse. and if that chance was so high, then that means other shortsellers as smart as u probably sized in as well. so why be the last one out at the top? nope. i d rather get out now and reassess or even renter at the top of the blowoff, than be the cunt getting blown out at the top with no BP to get back in.
coming to the market with a plan for BOTH sides of the trade is one of the highest forms of risk management. Because u are literally telling urself that there is a possibility that u will be WRONG. u are preparing urself for the worst. the “unexpected” cant hurt u if u expect it.
I love “secret #1”. That’s why for YEARS on this platform, while everyone else was promoting “win streaks” & “closing green” & “hold with conviction” bullshit, I kept emphasizing RISK MANAGEMENT as the ONLY “holy grail” to trading. Fuck win rate. Avoid large losses at ALL costs.
Im so sick of this trend where everyone is more focused on having consecutive green boxes on their fucking calendars rather than focusing on performance. ur PNL calendar is not a goddamn rubik’s cube. it’s OK to close red if u’re wrong on a trade. THERE IS ALWAYS ANOTHER TRADE.
If u’re new, I would rather see -$100 +$300 -$100 +300 on ur shitty calendar than +$100 +$50 +$200 -$2,000 Calendar 2 looks cute. But now u’re a broke bitch and have to suck dick to refund ur acct. So enough with the pretty colors. FOCUS ON PERFORMANCE.
When doing a Trading Performance review at the end of the day, ask yourself: 1) Was my stock selection systematic, or did I impulsively select the stock? 2) did I have a realistic stop loss BEFORE taking the trade? 3) did I have a realistic target area BEFORE taking the trade?
4) was my size calculated BEFORE the trade, in accordance with my risk management system? or did I randomly estimate what size to use? 5) did I have a systematic ENTRY or did I get in at some random ass area due to FOMO? Do this for EVERY trade u took that day. Then overtime,you’ll see where most of your losses or stubborn trades come from. Is it #1? #3 ? #5? which of those 5 points leads to 80% of your losses (Pareto Principle) ? is it entries? exits? size? trade selection? it’s different for everyone since we’re all stubborn in different ways.
For most traders, for every 10 mistakes we make, it’s usually the same top 1-2 that make up the vast majority of our losses. So identify what those top 2 bad habits are, and purge them. Read my tweets on the pareto principle (80/20 rule) for more details.
For risk management, same plan as usual (daytrading the calls to hedge the put swings). Always expect every short u take to fail, no matter how juicy it looks. It keeps u from getting overly biased and thinking u’re smarter than the market. So always prepare for bear
traps
anyway none of this is new so im probably boring the OG guys to death. Search my old threads. My rule of thumb is “if u cant call ur friends & laugh/crack jokes at a loss, u’re trading WAY too big”. Risk management is the cornerstone of everything I do.
In conclusion, unless you can average AT LEAST a 50% win rate each month, with at LEAST a 2:1 risk/reward, over at least 20 trades in a row, then YOU ARE NOT MENTALLY READY TO SIZE UP. Period. good luck, and may the god of risk management be with thy cunt self
My answer on how to deal with emotions & trading is always the same. 1) systematize ur trading, down to a checklist. same entry and exit signals every time (for each setup). the more room u leave to intuition, the more ammo u give to the emotional brain.
2) I’ll never stop preaching this one. hide your goddamn PNL. I have yet to meet a single trader who doesn’t break his plan midtrade the moment he sees that he’s up or down a significant amount. the amygdala is a bitch. it WILL take over each time it sees that fluctuating PNL box
and if ur response is “well how am i supposed to know how much im up or down if i hide my PNL”.
well then that means u didnt fully plan out ur trade. b/c if u already planned ur entry point, add points, exit point, stop loss, size etc., then why do u need ur PNL box??
Risk management includes hedging urself, against urself. and hiding ur PNL box does that. Anyone can enter a trade with a promise to stay disciplined. but shit becomes a different story the moment ur brain sees that unrealized pnl going the opposite direction.
Just beware of scammers, & get out of those stupid rooms that seduce u with PNLs & biased charts to sell u the “get rich quick” dream. Focus on rooms who emphasize: –Risk management over profits -FACTS over opinions -Longevity over 15min of fame
yup. every big loss i ever took was a result of me saying “aw come on, this is just ridiculous. it HAS to pullback now. fuck a stoploss. it’s up way 2 much. no way im covering into such a parabolic move. I’ll wait, like i always have”. Then the market says “you gon learn today”
Jack Kellogg:
I am not smart about my taking losses, I am quick. I never let a loss become big.
He doesn’t want to be smart with his Stop-Loss. He targets 50% win rate with small losses and larger wins. The moment the stock approaches his entry or goes the wrong direction even by a penny, he is out. Not a smart-stop loss, a quick stop loss. Go even negative on the win/loss ratio, but keep your losses minimal.
From my Risk Management Google Sheet
ALWAYS FOCUS ON TH PROCESS, NOT ON THE OUTCOME !!!!! Proper risk management will eliminate negative feelings about trading and install consistency as the foundation to plan on. This is why bringing RISK MANAGEMENT to a REVOLUTIONARY EXTREME LEVEL is so crucially important.
Elements of the risk management:
know your personal state, the state of the market and the state of the stock; base your size on personal, market and stock state; know your setup; know your stop and your target; control your environment and your tech; know your platform;
know your trading day rules and follow them – max # of trades; max loss, target profit; preferrable times of day to trade; strong days of the week; know your broker and exchange rules
Purpose defines the level of commitment and the readiness to perform. To be ready to learn and execute an extreme risk management system you need to have a purpose larger than yourself.
Give life to the observer and try be him more and more of the time; Imagine him as your mentor – you as an ultra-successful trader 3 years from now; he is observing you, advisong you, correcting you and encouraging you, also teching you. He is you and you are him; he is constantly next to you, watching you and mentoring you.
Develop a deep relationship with the future successful you; talk to him, have coffee with him, be him more and more; be constantlyextremely grateful for becoming this super successful trader, feel the abundance associated with being him
Not trading and being patient is the ultimate risk management from capital preservation point of view – no entry, no risk; the only risk with this is no participation, no learning, no gain.
Start the day with smaller size to warm up and feel the day; increase to full size only after feeling the market, the stock and I am in an alignment
You cannot get out of a problem with the same mindset that got you in it. Rehab trading is about changing your mindset.
NEVER come to the market with EXPECTATIONS, but with the readiness to trade the PROCESS !!!
FOCUS on the PROCESS only, NEVER on the RESULTS and EXPECTATIONS !!!
Warren Buffet’s quotes is that “diversification is a protection against ignorance. It makes little sense if you know what you are doing
NETWORKING WITH SUCCESSFUL TRADERS: Jack Kellogg (and his mentor Nate, supposedly even more successful)
Track your trades by type of setup in SHEETS; see what works for you and what doesnt
Copy others who are successful; you must join a communitiy
JACK KELLOGG STRONGEST ADVANTAGES AS PER HIMSELF IS NETWORKING !!!!!!!!!!!!!!!
The perfect setup: favourable target to stop-loss ratio (at least 2 to 1); inflection point of multiple timeframes setups, Support levels, EMA, VWAP, multi-day breakout, a setup that is visibla to allkind of traders
TO ADD IN THE CALCULATIONS PERSONAL STATE AND FOCUS !!!!
Mental state: align brainwaives with Lance Breitstein, Nate Michaud, Jack Kellogg; be in alfa, detect and maintain flow; eliminate distractions
Why is this important to me?
How am I going to make it? Step ONE:
How am I going to make it? Step TWO:
STEP ONE: Define Stop-Loss based on support levels
STEP TWO: Define Entry Price based on resistance levels
STEP THREE: Define number of shares to buy
based on the difference of Entry Price and Stop-Loss.
Whenever I enter a position, I have a predetermined stop. I know where I’m getting out before I get in.
The position size on a trade is determined by the stop, and the stop is determined on a technical basis.
I always place my stop beyond some technical barrier.
I place my stop at a point that is too far away or too difficult to reach easily.
Bruce Kovner
This all means the I must search for an entry where I have a prominent EMA and a key level together as a protection or as levels to protect my stop-loss level form price reversals. Put more barriers between entry and stop loss – EMA-s, Key levels, round number price levels, trend lines, pivot points, previous day open/close/low/high. Place stop-loss not AT the barriers, but well BEHIND the barriers.
This on its own means I need a better charting with all these on the chart – 9, 20, 50 EMA, VWAP, good drawing, ATR, Volume per price, etc.
Source: https://youtu.be/vpGH0y7A3Rg
The immense significance of a quick stop-loss
In days when I don’t respect my stop-loss, I end up annihilating my account. If I respect my stop-loss and end the day with a loss of $100, I can easily recover in one day only. But if I lose $500 or $1000, I can hardly recover after. Stoping out early and with a small loss is my way of securing a fast and healthy growth.
So, it is not important if I am right or wrong about the trade. It is not important to be profitable in this specific trade. The only important thing is account and capital preservation, so I can capitalize on the good days when they come.
My number one priority is mastering the quick stop-loss. Accept that 50% of the entries you are wrong. Accept that you will lose in these 50% of the transactions. Then make these losses as small as possible, so you can offset them with your wins.
Taking a quick loss must be joyful and exciting. This is my way to success. This is my way to the millions. I must become an excellent loss taker. Cut it as fast as you can. You do not like the way it goes, get out. It takes too long to go in the right direction, get out. It touches your stop-loss, get out. It goes in your direction, but then reverses and starts consolidating, get out. Do not wait for it to blow out in your face. Do not give it this chance. Get in and get out if needed 5 times – you can afford to pay the fees. You cannot afford to blow away your capital.
Step back, relax, look for better moving stocks, stocks that are going in the right direction with the right behaviour and the right volume. Opportunities are always lined up. You just need to be out of a sticky and sluggish tape, so you can catch the rockets.
Have a hard account daily stop-loss of $100.
Have a trade max loss of $30.
Respect them and grow your account in a secure and fast way without serious draw downs.
