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When you’re going through a rough patch with your trading, it’s easy to become impatient trying to get things back on track.

But impatience can lead to all kinds of mistakes…

One is to overtrade by chasing lots of low-probability moves. But just as damaging is allocating too much capital to any one trade.

Some traders think that by doubling or tripling the size of their trade, they’ll get their money back faster. But as I’ve witnessed countless times throughout my career, that move rarely, if ever, pays off…

Instead, it typically leads to even bigger losses, setting off a dangerous downward spiral. And that’s incredibly hard to reverse.

But as we’ll discuss today, understanding just one simple principle can make a vital difference to your trading success…

Scaling Down

The concept I’m referring to is “scaling.”

It’s something I learned to apply after blowing up my account multiple times in the trading pits of the Chicago Board Options Exchange (CBOE) all those years ago.

Rather than trade bigger and more often, I learned to do the opposite…

If I went through a losing period, I’d halve the size of my trades. And if my losing streak continued, I’d halve them again.

If I still hadn’t turned things around, I’d exit out of all my trades to clear my head. I’d go home and then come in fresh the following day, ready to start over again.

Not only did it allow me to reset… But it helped me avoid a scenario where a run of losses would rip through my account and the psychological bruising that follows a string of losses like that.

When things weren’t going to plan, I scaled down the amount I allocated to each trade.

But then, when things were going my way again…

Scaling Back Up

When I’d enjoyed a strong winning streak and had banked a stream of regular profits, then I was prepared to increase the amount I risked on any one trade.

In effect, I was using the market’s money from my retained profits to trade bigger positions and drive higher returns.

So, for example, if I had been typically trading five option contracts, then I might increase that to six or seven contracts. And even higher once my account size reached a certain level.

And that’s how I snowballed my options account.

You can apply the same strategy to trading stocks. Rather than trade the same dollar amount as your account size grows, you can apply a fixed percentage.

For example, you might decide you’re happy to risk a maximum of 3% of your account on any trade. That 3% equates to an ever-growing dollar amount if your account keeps growing. (Note that you could cut that back to 2% or even 1% if you had a series of losses).

Again, by increasing your trade size using the market’s money, you can build up your account. In this case, you’re scaling up your trade size as your profits (and account) continue to grow.

Although it might seem a simple concept, scaling is something that a lot of traders simply don’t use… or even know about. And I think that’s a big mistake.

Understanding and applying scaling was pivotal in my becoming a successful trader and ultimately going on to run my own hedge fund.

And it can enhance your results if you apply it to your trades, too.

Regards,

Larry Benedict
Editor, Trading With Larry Benedict