Trade Small, Trade Often

There is safety in numbers.

That is why animals seek cover in a group of similar animals. Known as the dilution effect, an animal on its own is clearly at high risk if a predator notices it. But if it’s a group of N animals, it now has only a 1/N chance of being eaten. Not only do animals travel in herds but they position themselves to be in the middle of the group for optimum protection. Animals have selfish expectations that someone else will become the victim. They have it figured out.

When my daughter goes out on the town for a bar crawl, she goes in a group of six to eight girls. I pity any guy who gets on their bad side! Protection in numbers.

There is also safety in numbers for traders. We all mess up sometimes. I overcooked my dog’s dinner last night (sorry Lucy). I got pulled over on the interstate recently for speeding. And when I was in Florida on a business trip, I sent a postcard back home to my wife… “Clearwater beach is beautiful…. wish you were here!” Except that I forgot the “e” on the end of ‘here’. She wasn’t impressed. LOL!

For traders, one horrible trade can have a life-changing effect. The law of large numbers suggests that the average of the results obtained from a large number of independent and identical random samples converges to the true value, if it exists. Simply put, if you have many small successes but lose on one, it will not destroy your overall results when compared to the scenario when you have a single huge trade and suffer a significant loss.

Even if you are absolutely sure of a success going into a trade, resist the temptation to go all in. Sooner or later, you will lose. Should you score on a sizeable trade, you may be led into thinking you did great and continue to go all in, when, in fact, you just got lucky. Eventually, you will take a hit. This is how people blow up their accounts.

Imagine if you have a $10,000 account. Without trading up your profits, you can place ten $1,000 trades, perhaps earning a modest $50 on each, or $500 in total. If one of those trades turns on you, it will slow you down slightly but not destroy your overall positive trajectory. But if you placed one trade for $10,000, and it turns south, you’re done. It happens.

Besides, for those of us who love to trade, we get the same fulfilling satisfaction of a win on smaller gains as with the home runs, so you may as well enjoy the ride even more.

The maxim stating “trade small, trade often” is especially favored in range-bound markets where it’s easier to score smaller profits multiple times during the trading day. You can “normalize” messing up in finance by creating lots of occurrences and everything will average out. It’s also the best way to turn failures into successes as you analyze and correct your trading behavior.

If you are a new trader, learn our basic material. Execute many paper trades first, logging them and learning from your weaknesses. Logging is not just a futile exercise: the more detail you provide in your notes, the more you can derive from your experiences and reduce the number of errors. Focus only on what works. Once you have 30+ solid paper trades, transition into real money. Start slow with, say, $1,000 each. Trade one real trade, then five paper trades. After a while, trade two real trades, then four paper trades… and so on.

Once you are full on with real trades, stay focused but continue to trade small and trade often. Only when your account has grown significantly should you up your investment, bearing in mind that if you lose it all, it should not adversely affect your trading career.

These are all things we teach in our daily Trading Room as a normal course of our morning. Ahren Stephens and I have your back in all aspects of trading, including strategies, fundamental and technical analysis, mental aspects of trading and even your long-term trading career goals. If you are familiar with calls and puts, join us in the Trading Room, mornings 9:20 to 10:30 a.m., ET. Click here to subscribe.

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