Fighting Off Sharks and Piranhas

In his book “Come into My Trading Room”, Dr. Alexander Elder describes two types of predators that are always trying to kill traders: Sharks and Piranhas.

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Sharks can be defeated by limiting each trader loss to just 2 percent of account equity. This is accomplished through the use of a stop-loss order and by trading the appropriate number of shares or contracts.

To avoid an extended series of piranha attacks, Elder advocates halting trading during any given month if accumulated losses exceed a certain threshold: the value of account balance dips 6% below its closing value at the end of last month. Many money managers use this type of guideline; their investment objectives dictate that monthly drawdowns are limited to a certain value to maintain low risk and achieve more consistent returns. For me, rather than suspending trading completely for the particular month, I will reduce my trade size by reducing risk per trade when the 6% drawdown threshold is reached.

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