Traders Ask: Violating My Risk Parameters

BellaMike Bellafiore's (Bella's) Blogs, Traders Ask4 Comments

Dear Mike,

I hope that my email finds you well. One of things I’ve learned about trading at a proprietary firm, is that the best traders are also the most honest traders. They’re honest about their numbers, their mistakes and weaknesses as a trader. Today I took a real close look at my trading weakness. I want this to become my strength.

After careful thought I’ve identified four major areas of trading:

  1. Game Planning
  2. Execution
  3. Risk Management
  4. Trade Management

My Trading Weakness is: Risk Management

  • Sizing My Position (Bad)
  • Cutting my losers (Slightly Improving)
  • Being in good setups (Improving)

Some Stats: Of the past 75 Trading Days I’ve had 30 losing days. Of those 30 days, I’ve reached or exceeded my daily stop loss 25 times. This is outrageous, and I’m disappointed that it took me so long to see this.

If Risk Management is my weakness, How can I improve?

Cutting My Losers:
I do the following exercise a couple times a week: I sit in front of my computer and practice entering hard stops. I identify a simulated trade, and immediately after entering the trade, I proceed to enter a hard stop. By practicing this reflex, I get my body and mind into the habit of initiating a trade and immediately after entering my hard stop. This has helped me a lot, and rather than doing it 2 times a week for thirty-minutes, I will increase it to 5 twenty-minute sessions per week.

Being in Good Setups:
I took your advice to heart and developed a playbook where I have 5 specific trades that I want to master. I’ve improved the quality of my setups dramatically, because I review these particular plays every day through the use of video, and Chart playback mode on “E-signal”. I dedicate about 20 min per day to this. I want to increase this to 20 minutes pre & post market hours.

However, risk management can be very complex. Even if I get into a good set up, and cut my losers at my defined out, I can still end up with a massive loss because I didn’t size myself correctly.

For example: I have a method for sizing my position, but I consistently fail to adhere to this method. Sometimes I see a trade that looks good, but does not fit my risk parameters. Sometimes it works, some times it fails. I try to keep my risk consistent throughout all my trades by risking only $50.00 per trade, and I adjust my share size around that number. Today AAPL gave me a set up with .75 cents of risk, rather than take 100 shares and risk $75 (which by the way is above my $50.00 limit); I emotionally took 300 shares and risked $225. This is a very common mistake of mine. If I do this 2 – 3 times on any given day, I exceed my $300 stop loss. I don’t know how I can improve this.

It’s like: I end up doing, “what I do not want to do” and I do not do, “what I know I should do.”

Please help me.

Bella Responds:

You have done so much excellent work here.  I love the exercises you have done to develop the skill of hitting stocks that trade against you.  You developed that skill.  You can another.

Use the same vivid imagery techniques you used to develop the skill of hitting stocks that trade against you.  For anyone new to this site please visit TraderFeed for the best examples of how to use this powerful technique.   Also check out this video from Dr. Phil Pearlman, @ppearlman, on trader psychology.  And now work on building the skill of entering trades only with your proscribed risk.  See yourself about to take on too much risk, like with the AAPL trade, and visualize passing on this trade.   Then spend most of your time visualizing yourself placing a trade where your risk does not exceed $100.  Repeat these exercises over and over for ten minutes everyday.

I was just discussing with our new class that when I am trading poorly often I have trouble controlling my risk.  Your job as a trader is to do the right thing and not to obsess about making or losing money.  And controlling your risk on all of your trades is doing the right thing.  Try and think of your trading that way.

This is just one more skill that you need to build mentally.  But you have developed similar skills in the past.  And you will going forward.

Mike Bellafiore

Author, One Good Trade: Inside the Highly Competitive World of Proprietary Trading

4 Comments on “Traders Ask: Violating My Risk Parameters”

  1. Thanks Bella!

    I really needed to hear this. I’ll work on this exercise! I really appreciate the help!


  2. A good thing to do is to identify why you behave that way. For example, when you took 300 shares on the AAPL trade, you described it as “emotional”. What kind of emotion was it ? Were you afraid of missing the trade ? Or did you want to hit a home-run with a huge size to recoup previous losses (aka “revenge trade”) ? Or did you mix AAPL with another stock that you regularly trade with 300 shares (lack of focus) ?
    By working on the root problem, you will probably have less difficulties to fix it.

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