Trading leverage or margin needed
BPA trading room Q&A: May 7, 2015
How much trading leverage do you use? For example, say the minimum initial margin on the Emini is $2,500 per contract, how much capital would you actually commit to trading this one contract?
Video duration: 5min 5sec
Multiple trading accounts?
That question comes up every now and then, and I’m going to answer it in a way that’s not satisfying, okay? If you’ve been trading for a long time and you have some money, you can have a whole bunch of accounts. And I have a whole bunch of accounts, and some days I trade four or five different accounts. Some days I trade, you know, one or two accounts. And let’s say on a day I trade one or two accounts, how much am I margining on that one account? I don’t know. Sometimes, I’m margining as much as 50 percent. But is that saying that I’m using 50 percent of my trading capital as margin? No, because I have six or seven other accounts, and so the percentage, is much less. So it depends by what you mean by “how much are you using — how much of your account are you using for margin?” It’s not how much of my account am I using, it’s how much of my total trading capital am I using.
Position sizing
And on any one trade, in general, I don’t know — I don’t even pay attention to it. I certainly don’t want to be too high. And any one account, it would be unusual for me to be using more than 50 percent of the account for margin. And all told, I probably don’t want to be using more than 10 percent of the entire collection of accounts. I don’t know, I would have to sit down and think about it. I probably go more than that sometimes. That’s for futures trading. Obviously, if I’m trading in a stock account, I’m perfectly happy using 100 percent. If I’m trading options, let’s say I’m buying options, either puts or calls or spreads, and that, I usually keep the positions small. So on any one trade, I might risk no more than 3 percent of my trading capital. Even then, I probably don’t trade even 3 percent.
So how much margin to use?
But going back to your question, I think what you’re indirectly asking is how much should a trader who’s starting out use? If he has, let’s say, a $10,000 account; should he trade one contract or two contracts? I think anyone with less than a $25,000 account should be thinking himself as a one-contract trader, but allow for the possibility that he sometimes can add on. You can say, “Well Al, that’s not margining very much.” It’s not. I understand that, but I’ve been doing this for a long time and I know the mathematics on it. And I know that even if you win nine trades in a row, 15 trades in a row, eventually you’re going to have a run where you lose six, or seven, or eight times in a row. And if you’re margining 25 percent of your account and you lose six in a row, you blew up your account. So I think it’s always better to trade as small as possible, and then rare occasions if something looks really good, you can increase. But in general, I think it’s much better to trade small as possible.
Trade the “I don’t care” size
Also, I sometimes talk about the “I don’t care” size of trading, and I come back to that repeatedly because I think it’s so important to being successful. You really cannot care. When I put a position on, I don’t care. I don’t care, right? And that’s the way it has to be. If you want to be objective and you want to be able to do what’s right, so when I shorted up here [B35], I didn’t care if I lost, right? I knew the odds were really high that I was going to win. But to be able to take that trade, when the market looks like this, and you’re shorting, right, you have to have confidence in the math. And I did. And with that, I just felt the odds were really good that if I sold and I sold higher, I was going to make money. And if lost money, I wouldn’t care because when I say the odds are that I’m going to make money, that does not mean I’m guaranteed to make money. What that means is sometimes I’m going to lose.
Manage your trade
However, if I’m able to use a wide enough stop and manage the trade correctly, those times are going to be really, really rare. Even when the market does crazy things, if it’s stair-stepping down. Even in a market like this where we get big, big moves down — you know, and let’s say you’re buying this low [B46/56], if you have the ability to buy lower [B66] — the next reversal up — and you can manage your trade correctly, you’re still going to make money. You’re still going back to that low. And that’s true on all these crazy, big days. Even a day like this. So even if you made the mistake of buying this low and did not get out, right, if you manage your trade correctly, buy more here. Part of the reason why we have these tails here is you have the 50 percent pullback traders, the traders who bought, scaled in, and the “thank you God” traders — “Oh gosh, you let me get back at breakeven on my trade.” But the odds are high that if you pick your trades correctly — even if you’re buying a falling market, as long as there’s enough two-sided trading going on, the odds are high that if you manage it correctly, you’ll be okay.
Al Brooks
Information on Al’s Online day trading room
Thank you both for your response. I still cannot understand how trade size is independent of risk. Perhaps I am misunderstanding Al. I cannot control how much reward the market offers, but I can control how far the price has to move before I enter profit, with trade size. At some point you have to trade large enough to make a profit. That’s just math.
Craig Verroche:
Your scenario is full of problems. First, it is not ES futures. Let’s assume a U.S. broker. My U.S. Broker does not scale commissions cost. They might if I traded 100+ ES contracts but I don’t. So I get a fixed commission cost per contract regardless of how many contracts I buy. Second, if you are buying shares of Spy or some other index-based stock/etf, then you have a fixed commission cost per lot. Most brokers do scale after a certain number of shares. But 150 shares of stock is the same commission as 200 shares of stock for my U.S. Broker so it’s a bad example IMHO. Then there’s your profit target, which as you know doesn’t make sense for ES futures, but presumably might for the right stock.
You are right that commission costs can eat into scalper’s profits big time and must be considered. You may be implying Al is saying something that he is not. It is only math and any spreadsheet will give the same answer if the input is good.
Hello GSS, my scenario assumes a 2 times risk profit target, which by Al’s definition is a swing trade not a scalp. If I adjust my scenario to a small trade size of 100 shares, I break even at a 3 times risk profit target. I become profitable at 3.5 times risk profit target. So to trade small and earn a profit I must be right 60% of the time and each winner must have a 3.5 times risk gain on average. I just do not think that is realistic. Trade size only becomes irrelevant when I assume an unrealistic profit target. If I am missing something please, someone let me know.
You are right that you cannot trade so small that it eats up all your profit. In the context of the article, Al is saying to trade small so you don’t blow up your account and so that you enjoy your job and don’t get stressed out.
By the way, if you are really paying $14 for 100 shares round trip, I’d find a different broker. Some brokers give you a choice to pay “per trade” or “per share” but it’s not really per share because it’s per lot and scales.
This is actually my broker’s cheapest rate. Their customer service is, honestly, awesome. I have heard horror stories about cheaper brokers in my country. I’ll just learn to increase my trade size. As I mentioned, I would be profitable or have less drawdown with my trades so far if I had traded larger. The framework that Al teaches us to apply to the market really does work.
Hi Al:
I am surprised that you use only 3 percent of your capital to take every trade.A light position, I personally think, is for beginners, not for masters like you. Since your winning probability is so high, even without any losing trades in many days, don’t you think it is a waste of your trading skills? Are there any trades where you used full of your capital in your account?
15 – 20 years ago, I traded online with a guy in his 70s who was making 10 – 20 pts a day. He traded 8 contracts and would scale in up to 24 contracts. I asked him why not 80 and 240? He said because he really enjoyed what he was doing and was making more money than he could possibly ever spend. He told me that if he went beyond a certain position size, he would feel stress too often and enjoy his job much less.
I do not understand this “trade small” concept. For months I traded small and didn’t cover my loses and commissions. Then I put my trades on an excel spreadsheet and began to increase the trade size uniformally on all of the trades. At some point, these trades generated a net profit. All I changed was the trade size. To me, trading small is mathematically impossible to be profitable.
Small is relative. If you normally trade 100 es, trading 30 – 50 is small, and overhead is not a problem. Regardless, the overhead issue that you mention is independent of position size. It is only related to risk and reward.
Thank you for your response. I have really thought about your answer, but I cannot understand how trade size is independent of the overhead issue. If I take 40 round trip trades, 60% which gain .20 each and 40% lose .10 each on 100 shares traded and a commission rate of $14, I get a net loss of $240. At 150 shares per trade the net loss is $80. I enter net profit of $80 once I use 200 shares. I am sorry, but I cannot see how this is independent of the trade size. It has the risk to reward and probability rules that you teach. Is there an error in this scenario?
The advice here is to trade small, survive the learning curve and become consistently profitable. Yes, profits will be small initially. Your initial goal is consistency, not profitability. With experience, you increase your position size but continue to trade the same way. Commissions/overhead will remain the same…my 2 cents.
You are exactly right…based on the scenario you are using. Your profit target is too small based on the cost (commissions) of your trades. $20 profit target and you are spending $14 on commissions. You would either need to go for a larger profit target, or find a broker with cheaper commissions.
That is why Al always says you should go for at least a one point scalp in the Emini. It you only go for one or two ticks, the cost of commissions become too high of a percentage compared to your profit target.