Preserving Your Capital
Most novice traders lose money when they first begin trading, and then eventually start to stabilize while they are trading with small lots. Their capital starts to grow once they maintain accuracy on a consistent basis with larger lots sizes. This should be the normal progression of a trader.
The most important concept you must learn—even before learning how to trade—is how to preserve you capital. If, for instance, you lose 50% of your account equity, it will take a 100% increase to get back to your original amount.
Therefore, it is absolutely imperative that you master money management and understand how not to lose money before even learning how to make money.
Markets do not care about you.
The markets do not care if you need the money to pay your mortgage or your grocery bills. They do not care if you are rich or poor, employed or unemployed. If you follow the rules and stick to the basics outlined in money management your chances of long-term survival increase tremendously.
Traders who enter the markets with the attitude that they need to make money fast are destined to fail.
Always use a Stop Loss (SL) and Target Limit (TL) orders with your trades with at least 2:1 R:R ratio, as explained above.
A stop loss order is your insurance policy against your own destruction. Even the best traders I have seen always use a stop loss when they trade. In other words, a stop loss is your exit strategy from a potentially really bad trade.
Put mathematics and statistics to good use to help prevent account failure (See ROF table below). All traders who fail in trading are no better than gamblers at a casino.
The y-axis of the charts below is the target hit ratio. If you placed five trades and four of them hit your targets, then your target ratio is 80%.
The x-axis represents the average risk-to-reward ratio that you are implementing.
If your trading strategy is in the green, you mathematically have 0% probability of ruining your account in the long run, if you are consistent with your statistics.
If your strategy is in the yellow, you run a low risk of ruining your account.
If you are in the red, you are guaranteed to fail in the long run.
Understanding and implementing these charts are crucial for your survival in the Forex World. These charts must be used in your trading plan in order to have a statistical edge.
Each chart demonstrates the probability of account failure with the amount you are risking with each trade. The more equity you trade with, the higher your target ratio must be to compensate for the added risk.
Increasing Probability and Accuracy
If you have a low accuracy rate with your trades and find that trades are not working in your favour, this could be due to several factors such as overtrading and/or not waiting for proper signals. However, probably the easiest and fastest way to increase the accuracy of your trades is by trading less, and waiting for good signals before entering the market. Waiting for high probability price action signals at value areas reduces your risk and increases your accuracy.
There are several other confirmations that you can use to potentially increase your trading accuracy and become a truly awakened trader.
If we recall from the ROF tables above, all that we need in order to be profitable traders is to be right more than 45% of the time (assuming we are using a 2:1 risk-to-reward ratio and 1% risk). However, transitioning from an amateur to a professional trader requires you to increase your accuracy higher.
Here are some pointers to increase accuracy. Some of the information presented below will be discussed in later lessons:
Trade in the direction of impulsive moves.
Trade only when you see printed price action signals at value areas.
Your SL or risk should always be at a point just below where you have spotted an agent-buyer or vice versa when selling. In this case, the trend has to push through a heavy buyer or seller. This greatly helps your odds and accuracy of trades.
Check other charts to get confirmations. (Gold, SP500, Dollar index etc.)
Place your target orders at paths of least resistance. Don’t fight the market; reach out for attainable targets. Targets should be placed at the next level of support or resistance, or the next value area—whichever comes first. It is better to have smaller targets than to get stopped out.
Avoid trading right before and right after a major announcement. Check your economic calendar before entering a trade! Increase screen time, trade only a few setups on a few currency pairs, and master them.