Are you sure that timely entrance is the most important?

Hello to everybody. In the pursuit of success in Forex traders tend to focus on finding a strategy that gives the greatest accuracy of entries. The pursuit of perfectionism in trade veils their eyes and doesn’t let to “‘see the forest for the trees“. So what are you missing? What important detail is missing in your trading plan?

 

The risk/reward ratio is your advantage

In this article, we look at how you should calculate the ratio of risk and return for his working trading system. Forex trading system should include a clearly defined MONEY MANAGEMENT SYSTEM, which is easy to observe. Money management is by far one of the most important aspects of any trading strategy, but most traders ignore the whole concept of money management in their trading.

Most forex traders want to focus on entry points, provided them by their trading systems. Their dream is to find the trading system, giving the signal to enter the position at the lowest point of the chart and a sell signal at the very top!

The entry point, no doubt, is important. But do not forget that at the time of entry, we can create a benefit not only by precise trade entry but also by creating a favorable statistical expectation. Namely, laying in a trade a good ratio for profit and risk.

Trading is a game of probabilities. We know that in N% of trades we will lose, but win in XN. But we must not forget that we can easily improve our statistics by simply ignoring the trade, where potential profit does not exceed potential loss at least twice.

So, having money management in your trading strategy reduces your losses and makes you stay the winner. I say “makes you” because you have laid a certain percentage of profitable trades into your trading system, knowledge of which will filter out your emotions in the trading process.

The use of this simple money management system will give you a general idea of how to improve your trading exponentially. In this article, I will explain how by developing your trading system, you will determine the size of the position before opening it. Please, remember that this is the basics to help you think correctly. Exact calculations specific to your strategy, you will need to calculate on your own.

“We have all heard the well-known trading axiom: cut your losses and let your profits grow. This is the aspect of money management in your trading system that produces big winners. Money management sets aside subjective feelings that are present in humans”.

Richard Dennis

“I’ll say it again: I’ve never made money by trading; I made big money waiting and allowing my profits to grow.”

Jesse Livermore

The first aspect that we need to understand about our trading system is that our system provides us with a positive expectation. We can only do this by testing, but sometimes tests can give a negative result if you forget to make a strategy rule of profit to risk ratio for each transaction of at least 1: 1,5.

All newcomers say that “trading system in Forex without 90% of profitable trades is sucks”, they will definitely make a fortune to the envy of others. They are, of course, wrong.

In pursuit of perfection

For all trading systems really working on the Forex market it is important to note that:

1. Professional traders are looking for performance, beginners seek perfection
2. New traders want to make a quick profit

It is the main reason that so many “super-mega-profitable” strategies and robots are sold. They all advertise perfection with 90% accuracy! Therefore, $100 “Holy Grail” sellers, will never stop eating their bread with caviar, bought with the dupes‘ money.

Most novice traders fixate on a number of successful transactions, rather than total income. They all trust a system that is advertised as winning 90%. Question: “What is good in a system, which provides a 90% of winning trades with an average gain of 12 points, if in order to win you must endure the risks of 60 points?” You see where I’m going? It is like your best friend after 3 visits in karate lessons is ready to fight 6 lifters on the street. He will obviously lose)

Bankruptcy probability of trading account from the percentage of profitable trades and the profit/risk ratio

The table above displays dependence of the probability to lose your deposit from the percentage of winning trades in your trading system and the profit/risk ratio on each trade. So, we see that even if your strategy works in 60% of cases, but the ratio of profit: risk is kept at least at the level of 1,5:1, you can already be sure that you do not lose all the money. But if the profit to risk ratio is 1:1, with the same 60% of profitable trades, the probability of bankruptcy at a series of losing trades is more than 12%.

The profit: risk of 1,5:1 or higher - that’s the right mindset to trade. Minimum characteristics of a profitable strategy - 40% winning trades at profits to losses ratio of 2:1 (see table above.). According to this table, if you do 100 transactions (each of which is performed by the same rules), and you have a 4o% winning trades at a ratio of profits to losses of 2: 1, your risk of running out of money would be about 14%. This is the minimum point of which you can be considered your system as working.

 

What is the most important information regarding the risk of bankruptcy?

Let me help you out: the presence of a high percentage of gains is not a sign that you will become a big winner. If you have a 55% winning trades with risk to earnings ratio of 1: 1, then your risk of bankruptcy will be about 27%. So, if you trade in a similar way, in addition to this it is better to have fewer positions with more profit!

Generally, 42% of winning trades with profit/risk ratio of 1,6:1 would also be a good option. This means that you take from the market 1,60 points for every 1 point that you risk. For example, in the case of risk of 40 points, you get 64 points. If the market turns against you (when volatility occurs), you adjust your stop up or down.

If your stop losses and take profits vary from trade to trade, then try to find a trade, in which the profit:risk ratio is less than 1,5:1. And you will see how your overall trading statistics improves.

Conclusion

I hope this article will help you in development and optimization of your own trading strategy. Do not focus on the search for perfection, but search for and work through profitable trading patterns. Wish you high profits!

Take care, Michael

ForexTraderPortal.com