How to improve your money mangement skills to trade better

Those who are very new to stock market, who is not even aware of terms like long, short, calls and puts leave alone technical analysis. Even a dummy/Newbie in stock market who could only choose one between two options of buy and sell would be right 50% of the time.

Now think about the probability factor is in front of you. When there are two outcomes possible, there is a 50% chance of something going your way, averaging out the continuous streak of good or bad fortune. Then how, almost 90% of the people in this industry end up on the wrong side and lose their shirts?

My understanding tells me that the reason behind this bewildering statistic is that it doesn’t matter either you are right or wrong, what matters is how much you lose when you are wrong and how much you gain when you are right.

finance

If your success rate of winning trades is 80% (very rare) and your average win to lose ratio is unfavorable (as in negative), in the derivatives market which is full of leverage, you would go bankrupt over a period of time if the risk involved in your trading style is very huge.

If your success rate of winning trades is 40%. (dummies in the above example have 50), and your average win to lose units is 3:1 (that is to say every-time you win, you get 3 and every time you lose you give 1) over a period of an year, doing these set of trades again and again would/should make you a decent profits.

Come to think of it, stock trading has less to do with technical analyses and more with MONEY MANAGEMENT. This is where the concept of support and resistance comes in. Technical analyses basically help you in shortening your stop losses and defining the entries and exits, nothing else. It is good money management that seize the day for the trader.

Manish Dhawan
Author – Mystic Funds

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Manish Dhawan

Manish Dhawan is an Independent Analyst managing a 3 million fund generating income in currency, commodity and equity derivatives while investing in Equity by following BEN Graham's Value principles. . More From Manish Dhawan »

5 comments… add one

  • lokesh February 6, 2013, 8:01 am

    Disagree!

    80% success ratio means chance to recover you loss over the next few trading sessions.

    40% success ratio means more losses contionously [even if they are small] ;

    look at the emotional quotient of the trader – continous loss vs. sustained winner.

    Reply
    • Rajandran R February 6, 2013, 12:48 pm

      @Logesh,

      I guess you had misunderstood what manish is likely to point out. For Example if your trading system is having 80% of winning ratio and if the there is risk of loosing 30-40% of losses in one single trade then two consecutive losses will wipe you out from the trading game.

      And if your trading system has low risk even 10 consecutive losses in a row cause you 20% of losses in your investing captital with a trading system accuracy close to 40% then the further trades will recover your losses even locks you in profit. Ultimately the amount your are willing to risk in each and every trade matters.

      And a low risk trading system give you sustained profits but in a slower way. Its just like a race between rabbit and turtle.

      Reply
    • Manish Dhawan February 6, 2013, 2:49 pm

      first of all I am yet to see a 80% success rate trading system (only fraudsters sell that without back-test data) and secondly my intention of the blog is to bring home the point that being right is not important, as humans we pay too much importance on psychology and need to be correct, money management (read risk-reward ratio) is the difference between success and failure.

      Reply
  • Harsh February 17, 2013, 9:43 am

    Completely disagree.

    Reply
  • thiyagu March 24, 2013, 12:34 am

    simple way to newcomer is Risking 1% of total money with good strategy (eg:30_70 in RSI)

    Reply

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    • Rajandran is a Market Analyst and founder of Marketcalls, one of the most intelligent blog in the world to share knowledge on Technical Analysis, Trading systems & Trading strategies.