The two percent rule is one of the most tried and tested rules there are for making money. This rule is applied by professional punters and traders all around the world. Successful professional card players and gamblers are known to use to rule to great effect.
The main reason for this rule being so effective is that it alleviates stress. This rule also preserves your working capital and your bank balance. Most importantly, the two percent rule enables you to be in control of your game. You need not succumb to those ugly demons that try to rip you apart mentally and emotionally, as you navigate your way through the wild terrain of chance with its cluttered jungle of conflicting possibilities.
This is how the two percent rule works when it comes to trading shares or indices or currencies or any other market.
Say you have a bank of $1000, the most you will risk of this money is $20. The reason you will only risk $20 is that you will not allow yourself a loss of more than $20. This means that in the event you lose $20, you will still have $980 left in the event of a loss.
This is called good money management because you still have the bulk of your capital intact. If you had allowed yourself to lose $100, then you would be putting your bank in jeopardy, because you would have lost ten percent. You might not think that this is a problem, but if you have two more consecutive losses, you will have lost nearly one third of your bank. This will start to have an emotional impact upon you, even if it is only slight.
Had you had five consecutive losing trades when risking only two percent of your original bank of working capital, you would find yourself down ten percent, and still with a feeling of control.
Because we are only trading with $1000 in working capital, it is a little difficult to trade to lose only two percent of the existing bank because of the small sum of money. If you like, after the third losing trade in a row, you could drop your loss for the next couple of trades to $19 and $18 in the event that you have had five losing trades.
Of course, when your bank grows from having had winning trades you increase the size of your potential loss to reflect two percent of the bank of your working capital.
You might think that you will not be able to make much money starting from a small base of $1000. However, you can start with $1000 and turn this into whatever you like in no time at all using the two percent rule. This is especially so trading the indexes. Of course, you need to know how to trade them so you can have more winning trades than losing trades.
The two percent rule is the best way I know of keeping yourself from losing money, losing your temper and losing control of your trading game. The reason for this is its a proven principle. It keeps you in the game longer. It is simple. It works.
Beginners who learn to apply the two percent rule, discover how to control their emotions and make better judgments, thus becoming better traders much quicker. Losing is never an issue. The focus is on recognizing how to make better trades to increase profits.
The simple equation being small losses (SL) cancel out small profits (SP), while no big losses (NBL) equals no big profits (BP) to lose. We can write the equation like this (SP-SL+ BP-NBL=BP).
Every one wants big profits but not everyone is prepared to pay the price to discover the principles of profiteering.
With a success rate of only 40% you will be able to make substantial money. The reason for this when we are talking big profits, we are talking about returns of 400% over a possible loss of $20.
Let us look at the following scenario where the first six trades are losing trades and the next four trades are profitable trades to demonstrate how only losing 2% of the initial bank can be turned around with on a 40% profitable trading success strategy, which represents a 400% profit to potential loss ratio, that is $80 profit to a possible $20 risk.
STARTING BANK $ 1,000.00
LOSS $ 20.00 BANK $ 980.00
LOSS $ 20.00 BANK $ 960.00
LOSS $ 20.00 BANK $ 940.00
LOSS $ 20.00 BANK $ 920.00
LOSS $ 20.00 BANK $ 900.00
LOSS $ 20.00 BANK $ 880.00
PROFIT $ 80.00 BANK $ 960.00
PROFIT $ 80.00 BANK $1,040.00
PROFIT $ 80.00 BANK $1,120.00
PROFIT $ 80.00 BANK $1,200.00
END OF TRADING BANK $1,200.00
This might seem rather slow, but in ten trades the bank has grown by 20%. For a day trader these ten trades might be six hours work, or even less. This demonstrates how a very mediocre skill of analysis to find winning trades can be turned into a profitable enterprise by using the 2% money management rule.
Once you have learnt to maintain this ratio of profitable trades to losing trades with the 2% rule, you will see your success increase. The reason for this is now you will only have to work on increasing your proportion of profitable trades. However, if you do the figures you will see that even with only a 30% success rate, it is possible to do very well as a trader, for a 10% return on your bank balance every day or every ten trades adds up very quickly.
to your success
Happy