As you debut in your trading of binary options, you may profit early, and this brings over confidence to you and your portfolio. Unfortunately, the easy aspects of life end, and trading becomes strenuous and losses accumulate in your trading account. Suddenly you may suffer a series of losses which drain your confidence and leave you with out your needed capital to continue trading. This phenomenon is not restricted to a single type of trader, but, in reality, affects practically all traders at one time or another in their careers.
The solution to reducing a total capital meltdown of a trader’s portfolio is to restrict the amount of speculative capital at risk at any one time during the trade. The concept is similar to that age old adage “don’t put all your eggs in one basket,” in that for the beginning trader, don’t commit all of your capital into any single one trade. In fact, a given rule of thumb amongst traders is to not commit more than 2% of a novice trader’s equity pool at any one time.
The reason being that if you experience a string of failures, there is still capital left to trade. If we look at this scenario in which a trader loses 7 trades in succession, and each trade lost 2%, then your losses are about 14% of your portfolio leaving you with 86% of your original capital. On the other hand, if you were to trade 15% of your capital per trade after 6 trades, you would be defacto liquidated.
By trading small, after a string of losses, you will still have capital to trade, and there is a good chance that your luck will change, and then you will experience a string of successes to replenish your account. Also by trading small with binary options, you gain experience perfecting your knowledge base and skills as a trader. Also, the goal of trading is not to develop a habit of constantly adding to your account capital. You will never experience success as a trader if you are constantly adding to your trading account. By exercising the 2% paradigm, you will be safeguarding your original seed capital account.
Another feature to remember about trading is that in the event of trading losses, there is an equity drawdown. This means that the percentage of profit needed to restore your capital account to its original invested amount then the percentage of profit needed to recoup grows geometrically. For example, if you lose 10% of your capital, then you subsequently need about 11%. If you lose another 10% of your capital, then you require about 23.5 % of profit to recover. For each subsequent 10%, the percentage profit needed to recoup original equity continues to grow geometrically.
Equity drawdowns are so vicious that the novice trader has to strive to protective your trading capital aggressively. If you lose 50% of your original $10,000 trading account on one trade, then you will need to score a 100% of the present trading account balance ($5,000) just to restore your original bank balance. These kind of odds are very difficult to achieve in an efficient market.
Remember as a beginning trader to allocate 2% of your capital to start trading which will keep you slow and steady. Then there is time to perfect trading skills and strategies which means controlling losses. Managing trading losses is the key to generating consistent profits with binary options.