Money management is a decision you plan before each swing trade.
Risk management applies to how you manage share size, profits and stops losses. Find out how to keep it simple but effective. Always manage risk first!
“We Must Protect this Account!”
The most important aspect of any trading plan is identifying and mitigating risk. This can be separated into 2 different concepts:
1. Account Risk – the potential of total loss to your trading capital
2. Trade Risk – the potential of total loss in a particular trade
Let’s breakdown each one with more detail.
It’s important to start here when developing your swing trading plan. Think about those UnderAmour commercials, where you have a football player, sporting the latest UnderAmour gear in his home stadium yelling, “We Must Protect this House!” Well, in swing trading the mantra should be, “We Must Protect this Account!”
Without money in the account, you can’t trade… it’s that simple. If you don’t know what your edge or strategy is, paper trade until you do. If you are a beginning swing trader, there is a learning curve, so start small and plan for that learning curve to last at least 5-6 months.
NorthStar Active Equities Trading can help shorten that learning curve because of our experience and track record. Focus on cash accounts before utilizing leverage. Finally, know your risk parameters.
You should not risk more than 2-3% of your account per month. With a $100k account, that amounts to $2-3K max drawdown per month. Assuming 20 trading days in a month, a swing trader of this account size should expect to lose no more than $500-750 per week or $100-$150 per day.
A smart swing trader will start at 2% max drawdown instead of 3%, understanding there will be trading fees associated with the account as well. Knowing your risk parameters will help the beginning swing trader with money management, thus protecting this account from huge drawdowns. However for this money management strategy to be successful, “trade risk” must be evaluated.
This represents the other part of a complete money management plan. If you are going to risk $500 per week based on the example cited above, then max risk per trade is $250 for 2 trades. The minimum reward:risk scenario for any trade should be 2:1.
Therefore if you buy 100 shares of the XYZ stock at $30/share then your stop should be at $27.50 and your target should be $35. If you want 200 shares, then adjust your size accordingly.
Assuming the trade is profitable, feel free to take profits and move up your stop so the trade never goes negative. This is now a free trade and gives you the ability to risk an additional $250 that week.
When it’s all said and done, money management is a numbers game. Understand the numbers/risk parameters and make them work for you to protect your account from total loss.by