Over-Leveraging Kills Your Trading Pot

Over-Leveraging Kills Your Trading Pot

A discussion took place today on my ADVFN trading forum where the question raised was why so many retail traders lose money. Following that conversation I’ve decided to reproduce my side of the story here.

The fact is, in my opinion, over leverage is the downfall of most traders who lose money.

There is no doubt about that. I have proved it numerous times and I’ve experimented with over leverage using my own pot.

The odds of a trade going into a profit whether immediately or in the future are much higher than 50%. But, we cannot allow price to go against us as much as the market wants simply because we can’t afford the loss if price goes too far away from our entry when we are trading size that is too large.

Big successful funds make 8% – 10% per year on their initial pot. Yet, many of us here do that and more in a day!

Something doesn’t add up does it?

Well, it does, the difference is that the fund believes in the ultimate outcome, does not over leverage, and is patient.

We want our profits now, and rather than be out of the game waiting for an over leveraged position to come good, we close out for a loss and move onto the next trade.

Well, surely that is the correct thing to do yes?

Not always, especially if the next trade is going to put us in the same predicament, which it often will.

I posted a great DOW long here (on the forum) over the Christmas holiday. It was a position I truly believed in….so much so that I went in at £-Large per point – 5x my average size.

I was stopped out for breakeven. Here is the chart showing entry and exit:

That position would now be showing £000’s in profit.

Here is an equivilant trade that I also truly believed in, but being a currency you tend to give more room for movement so there was no way I’d enter this at huge stake size per point. I detailed EUR:CAD just before I took the trade in this post.

Instead I entered at £1 per point. Here’s the chart showing what happened:

Even at a £300 loss I was feeling the pain as price slowly crept towards my stop loss….. I mean, why let it go £300 against you? But, £300 wasn’t a large percentage of the total pot size…. It was a loss I wouldn’t have wanted to take, but my account could handle it and recover from it unscathed within a few days, or a Week at most.

I was right to set stop losses where I did, and I was right to enter with such a small stake, because, when your trade is right, the market will give you opportunities to trail stop losses without having to constantly look at the chart. (Sometimes I go 2 days without looking at the chart, but I do keep an eye on the P+L)

The market will give you opportunities to scale into the trade, I mean, look at the retraces to the (pink) 50MA on this same chart below, now zoomed out to show all the way to present day. I could have easily added another £1 each time that MA was tagged, and trailed the stop on the initial position to the previous swing high:

When I trade small, I can make consistently good profits week after week. My mood is good, I feel content, and the account balance increases quicker than you’d imagine.

When I trade too big, I get headaches from not being able to take my eyes off the chart from one tick to the next in case there’s a sudden massive spike, I struggle to get to sleep at night (even on big win days, simply because my body can’t relax), and there’s nothing worse than wiping out you’re whole Week’s profit, and maybe a few thousand on top, all on a Friday night 10 mins before the market closes only to end up having that play on you’re mind all weekend leaving you completely miserable.

My conclusion is, sort out you’re leverage, let you’re trades breathe and the profits will come.

2 Comments
  • Razor Swing trader
    Posted at 15:15h, 11 January

    Excellent Post, I struggled with leverage and have pulled back size to a point I don’t really care about it too much. I use the “honey guess what, I just got smashed” test.
    There’s nothing worst than telling your wife how much you have lost.
    Your EUR/CAD trade is brilliant, I wish I could hold my trades like that.

    Cheers
    Brent

  • RS2OOO
    Posted at 18:56h, 11 January

    Thanks Brent.
    Taken me ages to get the ability to hold trades for any length of time, but even still, I struggle to hold for more than a 2 to 3 days except for the odd one where the trend stays truly intact without any big retraces. I did a post on that EUR:CAD trade when I first took the position – I’ll add a link to it in this post.

    Closed AUD:NZD today – Daily chart looks like it could just keep going down, but I thought there might be hourly support at 1.2938 so I closed. Main reason was because the financing is so expensive on this pair and it can consolidate sideways for so long, the financing starts eating into profits, so I just closed it.