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The Problem





 

The intra-day trading arena is a deceptive snake pit for the small, undercapitalized 'outsider' retail trader. That said, in my many years of experience struggling to extract and keep profits from the financial markets - whether day or night trading - I noted one constant that is a significant impediment to making clear, unbiased decisions for market entry and exit: emotions. Not surprising and no secret there. All trading organizations, trading room moderators and advisors know this and coach their clients accordingly. Some also mention under-capitalization. So the intensity of those emotions are dependent upon 1) the trader's available capital, and 2) how much of that capital is risked for a given trade. But they will also tell you that the most important factor determining profit probability for a given trade is the technical set-up. Ask 99% of day traders how well that has worked for them.

A mistake I've seen promoted by at least one other service is scaling into too many contracts against insufficient capital. For example, I have seen methodologies where the advisory service recommends scaling into a YM trade with 10 contracts – using a trading account with only $50,000! Let's say the market moves against the trader by 50 points – let's do the math:

 

A 1-point movement of the YM gains or loses $5

10 contracts X $5 = $50

50pts X $50 = $2,500 loss

 

This example assumes that the trader has set a 50-pt stop loss. A trader starting with $50,000 has now just lost 5% of their account, not an insignificant loss. Now imagine how the trader reacts emotionally to this loss if his/her account had a starting capitalization of only $10,000, and accordingly scales in with only 2 contracts. Now that trader has also lost 5% of their account, on one trade. If that same trader only funded their account with $5000, they've still lost 5% of their account if one contract was entered.

 

 

The Psychology of Loss
 

The difference between the under-capitalized traders and the one with $50,000 is clear when emotions are factored into this scenario, even taking into consideration that the same %age of money was lost. The under-capitalized trader is going to feel considerably more stress and worry over a drawdown or loss that turns a starting fund of $10,000 into $9,500. Or worse, a starting fund of $5,000 reducing to $4,750. It's the same %age loss, but the trader's perception is that the remaining balance is much more at risk of being drawn down further until there is a very real risk of blowing out the entire account. Of course the same can happen to the trader with the $50,000 account trading 10 contracts/trade. But that trader will likely feel much less stress over that since now she still has a relatively healthy amount of money left to trade another day ($47,500).

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