The math that separates gamblers from traders: Position Sizing. (Post 11/45)

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Welcome to post 11.

Well, let's pull all the pieces together now. You have discovered a breakout. The volume is hugely high. The price rebounded and amazingly retested the new support level. But by reading post 10 you know just where to place your stop loss to save your bacon.

You now have the screen for placing an order. You will need to enter the number of shares you wish to enter.

If you're willing to bet real money, how much is it worth?

The following is the beginner's work. They view their account balance and see that they have $1,000 and thus think: “This is it! This is what I want! If it doubles, I will have two grand.”

So they go all in. They sink all the $1,000 in one penny stock.

This is the most basic of all begger's moves. In this case if you are going all in, you are not trading any longer. You're simply purchasing a lottery ticket.

If there is a sudden fakeout what will happen? Or, what if the company releases a “leaky” SEC filing in the middle of the day? The stock stops immediately, drops 40%, and then surpasses your stop loss.

Congratulations. In one trade you wiped out nearly half of your net-worth. It's going to take months to get over a hit like that.

Professional traders are using a concept called Position Sizing.

The golden rule of trading is never to risk more than 1% to 2% of your total trading account on any one trading.

Let's say that is the $1,000 account. 1% of $1,000 is 10 bucks.

This does not mean that you will only purchase $10 worth of stock. It means that you have to determine the size of the shares you want to buy so that if the stock price drops to your stop price and you are taken out, you are not losing $100, but only $10.

Consider what that maths might be, for one moment.

With a loss limit of 1 per trade, you might get a 10 in a row (losing 10 trades in a row), and you still have 90% of your account still invested. You survive. The next day you're up and around and still searching for the next big set up.

The guy that went all in? He made one mistake and everything he wrote is all lost.

Penny stocks are extremely volatile. You must position them with the understanding that any specific trade may lose money. Don't risk your core capital.

Well, you've purchased the correct quantity, right? You place your stop loss. This time, the exchange goes through! The stock is rising right on track as you wanted.

But you are now in a new situation. When should you make the sale?

In the beginning, novices tend to be greedy, overstay their time, and end up losing money. Now in post 12, we will be discussing about "Scaling Out" and what to do once your dump happens.