After graduating from college, Avi Levichuk was eager to make big cash by day trading. He heard many stories about SOES bandits making thousands of dollars a day flipping in and out of stocks. Avi believed that all he needed to do was catch a couple of waves a day trading Internet stocks. If he did this, he would make anywhere from five to ten points, or five to ten thousand dollars, per day using 1,000-share lots.
Avi went to a SOES shop on Broad Street and plunked down his bar mitzvah money, $25,000, plus another $25,000 he borrowed from his grandfather. With the $50,000 he zoould qualify for 4 to 1 intraday leverage, providing him with $200,000 of buying power. He estimated this would be enough to allow him to trade high-priced Internet stocks such as Yahoo, Ebay, or Amazon.
On his first day of trading, Avi was briefly up $4,000 on a 1,000-share position in Ebay. Then the stock turned against him and he was quickly down $3,000—a $7,000 reversal. Instead of cutting his losses,
Avi bought another 1,000 shares, in order to "average down." Ebay sold off another 6 points and suddenly Avi was doion $15,000, or 30 percent of his $50,000, in less than tiuo hours. Unable to take the pain anymore, Avi sold his 2,000 shares—at the bottom of the move. Within three weeks Avi had lost all of his $50,000 dollars, and on top of that he owed the firm $3,000. If he had understood the principles of risk control, his chances for success would have increased dramatically.
Risk control is the foundation of survival for all traders. It is one of the few aspects of the marketplace that a trader has control over. The most common error made by beginning traders is a disregard for risk control by taking overly large positions. Unreasonable expectations can cause beginners to gamble 50 to 100 percent of their portfolios on a single trade. Taking wild shots with huge positions is not trading—it's gambling. Successful trading is developed over time, by winning consistently and conserving capital.
Trading positions that are too large often results in huge losses; it is the most common reason beginning traders go broke quickly. Large positions go hand in hand with large emotions: The bigger the position, the more intense the feeling of either greed or fear. The large P&L swings associated with big positions usually cause traders who are just beginning to abandon discipline and to trade subjectively and emotionally. On one hand, it is harder for them to take the loss because of its size; on the other hand, it is harder to let the profits run on a position that's too big. Traders end up cutting their profits short and letting their losses run—the opposite of what they should be doing in order to be successful.
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