There are almost more ways to determine the best position size for your trading system than there are trading systems. So how do you even find the suitable candidates to start with? Today we’re going to go through a couple of perhaps, lesser known methodologies from some major financial legends that each hold significant merit for consideration in your risk management playbook.
- William O’Neil
William O’Neil was much better known for his stock trading methodologies, but that doesn’t mean they can’t apply to a Forex trading system. In addressing the question of “How much to own” in any given portfolio, O’Neil says that even a multi-million dollar portfolio should only have about 6-7 stocks in it. A portfolio of $5k to $20k shouldn’t have any more than 3-4. The premise here being, put more emphasis into finding and trading the very best setups. Why cast a wide net when you can trade like a sniper and allocate more of your capital to the best trade setups.
- Warren Buffet
Similar to O’Neil, Buffet is interested in owning only the top-dogs of stocks. The best in the business of businesses, if you will. The idea here being that once a company (ie trade) meets your exceptionally strict criteria, you get in, and get in large! Tailored more to the long term trader or investor, you’re not here to flip trades over the short term, so for maximum yield, you need to maximise your positions size! It’s a unique strategy, but hey, you can’t argue with Buffet’s results.
- The Foolish-Four by Motley Fool
This is a bit of an odd one, but that doesn’t mean it should be discarded. With this method, you’re only taking four positions of equal size… well almost. The twist with this is that one of your positions needs to be double the size of the others. Now, the position that is double the size of the others needs to be the trade that has the best chances of making the biggest return. The remaining three positions are all of equal size, and are half as big.
- Kaufman Adaptive Moving Average
Kaufman again, has quite a different methodology, describing risk as the annualised standard deviation of changes to your equity and reward as the annualised rate of return… compounded. He advises that a trader can control the worst-case scenario by considering the standard deviation of risk. Eg. If a trader has a 40% return and their drawdown variability states that 1 standard deviation is 10%, then there is:
- a 16% chance of a 10% drawdown
- a 2.5% chance of a 20% drawdown
- A .5% chance of a 30$ drawdown
Best known for the book ‘Winner Take All’, Gallacher says that an account that trades two contracts of the same instrument risking $500, is much less risky than an account trading 2 contracts of the same instrument risking $250 on each. This can be hard to grasp, however if using the percent risk model than you should be able to understand it. The percent volatility model suggested by Gallacher really only is suitable for those who trade tight stops.
- Ken Roberts
This approach is more for the smaller retail traders, with account sizes between $1,000 and $10,000. Ken proposes that traders keep their size to less than one contract.