Lesson #3 - before to setup your trading plan, learn this magic formula about money management

Lesson #3 - before to setup your trading plan, learn this magic formula about money management

The Hope of Gain Formula + The Risk computation is the basis of the money management

I will repeat that each time I can but the base of your future success will be money management more than your ability to recognize a pattern, enter right or exit right.

And a formula can help you a lot. This formula is quite simple. You will compute a "hope of gain".

If you make 10 trades, win 6 and lose 4, you have a winning percentage of 60%, losing one of 40%, right?

Ok,

If the average win for the winning trade is 20 USD and the average loss for the losing one is 30 USD, you have :

Hope of Gain = Percentage of winning position X Average Winning Gain - percentage of losing position  X Average Loss 

Hope of Gain  = 0.6 X 20 - 0.4 X 30 = 12 - 12 = 0 USD

It means that you won't gain anything and lose nothing.

When you look at your history of trading, you need to use this formula to see if your trading plan is working and this "Hope of Gain" needs to be positive. No matter how much is positive, need only to be.

Here we found the "0 level" where you are only maintaining your balance at the same level. You need to win 6 trades out 10 with an average of 20 USD gain (respecting the risk we have explained in another post) and keep your loss at an average of 30 USD to be OK.

This "balance" will be determined by the kind of trading plan you will set up and in what timeframe you will play. You can win only 20% of the position but still, have a good account running well.

In theory, it's true but in a very practical way, it's not so true.

By experience, you need to raise the winning rate as high as you can keeping the loss the smaller you can then you need to find "trading strategies" respecting this trend but as long as the hope of gain is positive, your trading plan is working.

The main effort when you will position opened will be to manage this position to mitigate the losses and exit right with the negative position. The true skill of a trader is there: managing the losses.

Rules #7 - Before setuping your trading plan, understand the "hope of gain" formula.

Rules #8 - Mitigate the losses will be the key.

Rules #9 - Raising the winning percentage is a goal.