The first rules of Trading

Sometimes traders can get emotionally invested in a stock or a trading strategy and see their bank balance shrink to zip.

That’s because it’s easy to get excited about trading and forget the reason why you’re investing in the first place – to make money.

And in order to make money, you have to use your head and manage your money against risk.

Watch your bank balance!

You must remember that your number one goal in investing is to protect your trading capital.

Money management is what separates the successful traders from the ones who crawl home with their tails in between their legs (and their wallets empty).

The most sensible way to manage your money is through keeping your trades small (also known as the “basket approach”) and never average down (also known as increasing your holdings in falling stocks).

Profit versus loss

In managing the money set aside for investing, one must always remember to compare the potential size of a loss with the potential size of a profit.

Just because someone profits on trades most of the time doesn’t mean they’re ahead.

They may still have more profits than losses but lose out on the whole, because the magnitude of their few losses is severe.

On the other hand, those who only make a small proportion of profits relative to losses may do well because their losing trades aren’t significant.

Some intelligent grey heads have noted that it doesn’t even matter how many of your trades are profitable so long as you use intelligent money management principles.

Eye on the ball

It’s easy to get distracted by “trading noise” – the entry decision, the exit decision – the day-to-day or minute-to-minute movements of a stock.

However, your overall goal as a trader should be to preserve your capital.

In other words, take care of your money. This may sound like the kind of sensible advice your mother would tell you, and you might be dismissively thinking, “I know, I know!” But you’d be surprised at how important this message is – and how often people forget it!

In the end, what you’re doing is trading to survive – if you can survive, you can keep trading, after all.

And the longer you trade, the better your chance of trading success.