I had a visit from a long lost friend last week, he was a “special guest” (we made a leche flan for him) so the kids were outdoing each other for attention 🙂 My 6yr-old son found a good way to latch on him reading from a joke book, one was this joke “What’s a pirate’s favorite letter?”
Rrrrrrrrrrrrrrr
I don’t know where that came from, must be all those cartoons 🙂
OK – I have my own little “joke” — What is a trader’s favorite letter?
Don’t be surprised…it’s
Rrrrrrrrrrrrrrr
If you’ve been reading this blog for a while, you’d know that I often talk about Risk – which we quantify when opening a position, (whether it is investment or trading position) and we refer to our Stop as the the Intial Risk or 1 “R”. We also talk about evaluating profits according to how many “R”s were produced or the “R-Multiple” as popularized by Dr. Van Tharp.
For example, you want to invest 5,000 buying 500 shares worth $10, but want to limit your risk to $1 per share only . This is the amount you want to risk at the very first instance so that’s why we call it “Initial Risk”. Now deciding on your Initial Risk may be easy, almost a no-brainer, for some it is the amount you are willing to lose, period. And that’s fair enough, you have a dollar limit that is easy to keep track.
You have to know though this amount should have room for flexibility, I would recommend you look at what you are trading to decide on this. Like some stocks have a volatility range of $1 a day, so you can not have a 1R of 30cents. Correct?! If you do, you will never get a chance for the trade to move in your favor because you are always stopped out. If you are mathematically inclined, it is good to look at the Average True Range or ATR of the stock, say for 15 days. My simple approach to this is get High less the Low for each of the 15 days before today, then add your 15days data, then divide by 15 to get the average. You can use 7 days too (shorter time period if you are investing shorter time period). Let’s just say you are doing short-term investments for 1-3 months.
It is important though that while this figure is something you can afford to lose, remember also that your R gives you room for the trade to move in your favor. Sometimes there are “events” that cause stocks to fall, like the North Korean threat, but with good economic data, such falls can be short-lived, so you have to have a wider view. It is true, I don’t abandon my positions just because it hits a stop, but then again, my stops are wide enough and I have position sizing strategies that limit my risk and increase profits. We discuss this in detail in the Retirement Investing webinar and Income Investing workshop. Email me at charmel@highheeledtraders.com for the next schedules.
Remember that R is key to profitability. When you get your R’s that work best for your trading strategies, it will be spectaculaRRRRRRRRRRRRRRRRRR
I try and do several things at the same time, studying my trades, writing this blog, and entertaining the kids with this video. Enjoy!
