How much is too much risk?

I get asked this question all of the time by new protegees: "How much is too much risk"?

My answer: There really isn't a simple answer to that question. You see risk involves what I like to call heat. Heat is defined by the point that your literally begin to perspire. A lot of times that is what pressure does.

Heat will make you do some crazy things. For instance have you ever burned your hand on a hot stove or pan? If so you know what I am talking about.

First you start talking different. You might say a few words that you wouldn't say under normal circumstances. :-)

Next, you start walking different. You might start pacing back and forth across the room in anticipation that the pain is going to magically go away, when you know good and well that it isn't.

Then you start looking different. Your face may get red and you may start to sweat as your body goes into action to cool you down. And finally the area where you got burned, blisters up and creates a wound that can annoy you for days and can even get infected if you don't treat it right.

Well in trading it is no different except we aren't dealing with physical heat, but emotional heat. Everyone handles emotional heat in a different way.

I like to sit in the Sauna after a good workout. I've noticed that some people can get into that 170 degree heat and stay for 20 minutes or more. Others get in there and in five minutes they have had all they can take.

In the same manner each one of us is built with a different psychological makeup. We each have a unique tolerance to emotional heat. Some people can handle a 20% or 30% drawdown on their retirement account. For others this is way outside of the norm and if this happened to them they would do some irrational things and potentially cause more damage.

A draw-down is the sum total of the negative equity effect that one losing trade or multiple consecutive losing trades has on your account. The idea is to keep the draw-down small, however if you are using aggressive risk parameters when you should be using conservative risk parameters then this may be impossible to do.

Generally speaking, the larger the potential reward, the larger the risk will be.

Also, if you lose 20% do you know how much you have to make back in order to be back to break even? It isn't just 20%. It is actually 25%. Here is a table of % of draw-down and what is required to make it back to break even.

Draw-down %	% Required to get back to break even
10%	11.1%
20%	25%
30%	42.8%
40%	66.6%
50%	100%
60%	150%
70%	233.3%
80%	400%
90%	900%

That is why I use strict risk parameters and never risk more than 3% on any one given aggressive trade and 1.5% on any one given conservative trade. In fact the largest draw-down that my Advent Forex system has seen over the past two years is 14% trading the aggressive money management and 7% trading the conservative money management.

On the other hand if you have a system that has a 50% draw-down you now need to make a 100% return just to get back to break-even. How much heat do you think you would be feeling at this point? Would your palms be sweaty and would you be hesitating to take the next trade?

Would you start saying things that you normally wouldn't say like, "I don't like this trade. I think I will pass". When you do this that trade is guaranteed to be the one trade that would have pulled you out of the hole. Then on the next trade you say, "Well I'll take this trade and I will double up on it so that I can make the money back quickly". That trade ends up being a loser and you are in a worse position than before. Infection has set in and before long you may need an amputation and have nothing left.

I know this is a gruesome scene but, this is the reality of 95% of traders. I don't want it to be your reality.

As soon as the Advent Forex Mentorship program opens back up to more students I will let you know.

Please call or email my office anytime.

To your trading success,

Cecil Robles

support@ethostraders.com
If you have any questions please feel free to call my office:
Office Line - 866-200-1102 M-F 11:00am - 4:00pm PST

P.S. Be on the lookout for an invitation from me to a free webinar this month. I'll be talking about some important topics for those that want to be top notch traders.

 

 

*Any income claims are typical of top performers not all users and your results will vary. These results are as reported in testimonials from members using the Advent Forex course and trading techniques

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Risk Disclosure Statement:

The risk of loss in trading foreign exchange can be substantial. You should therefore carefully consider whether such trading is suitable for you in light of your financial condition.

Unique experiences and past performances do not guarantee future results! Results are non-representative of all clients; certain accounts may have worse performance than that indicated. Trading spot foreign currencies involves substantial risk and there is always the potential for loss. Your trading results may vary. Because the risk factor is high in the foreign exchange market trading, only genuine “risk” funds should be used in such trading. If you do not have the extra capital that you can afford to lose, you should not trade in the foreign exchange market. No “safe” trading system has ever been devised, and no one can guarantee profits or freedom from loss. Trading involves high risks and you can lose a lot of money.

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