Many novices enter the forex market without a minimum of formal preparation and without something fundamental when trading: Capital Management.
What everyone talks about and few understand. The worst thing is that all these people are fed by harmful and misleading marketing that makes them believe that they only need to “earn a few pips to be successful in this market”. That is false or at least very debatable. Analyze it mathematically:
We have a novice trader (without formal training like many others) who thinks he should only “take 10 pips out of the market”. In other words, your profit is 10 pips and in principle you also risk 10 pips (your stop loss where your losing position is closed). In conclusion the risk: it benefited is 1:1 and this way of trading is underpinned by the weak argument that it “could” work with enormous leverage and large numbers of lots.
Let’s be very generous with this newbie trader and imagine that he has a system that has a 50% chance in favor and 50% against. Let us also suppose that it starts with a capital of 10,000 dollars (the amount my dear friend is indistinct). Now, if we had a sample of 20 trades where this trader loses uninterruptedly in the first 10 and gains uninterruptedly in the second 10 then at the end of the sample the trader’s capital would apparently be intact. “Apparently.” If you’ve ever traded, you know what I mean. Here I am not taking into account the commission, spred, interest, etc. charged by brokers for using your platform. So your final capital will ALWAYS be less than your initial capital.
Secondly, it is known that no novice has the expertise and discipline to manage such large leverages. In addition, looking for so few pip’s with a large number of lots is suicidal and even more so if the person who is operating does not have knowledge and experience. What the final will end up doing for the novice trader is what you see in the second box: increase the risk for the same profit. That is to say, a risk system: it benefited 2:1, which goes against efficient capital management. In the second box this trader will seek to earn 10 pips by risking 20. What’s the point of risking more than you earn? And although you may not believe it, many traders operate this way. So, if this trader continues to maintain a system that has a 50% in favor and 50% against probability, at the end of the sample the trader will only end up more negative and with a lot of accumulated frustrations.
What happens friends is something normal within human beings but lethal when trading, which is to want to secure profits quickly (and get even less than the projected profit) and on the other hand not to want to lose so quickly and let the negative trade run by making it double, triple or even quadruple the profits. I’m sure it must have happened at some point. All this without mentioning that it plays against the novice the little experience, the personality, the fear, etc. Factors that ultimately make your chances of efficient trading slim. After 10 uninterrupted bad trades the novice trader ends up with a capital of 9,800 and despite winning in the next 10 trades he will not be able to return his capital to the initial amount.
Paragraphs ago I said I was being very generous if we thought we had a system 50% against it. Do you know why? Simply because it is difficult to find strategies that have such good profitability ratios. Most strategies posted on the web have low probability profitability ratios in your favor and it would be enough for you to do a rigorous back-testing of “these strategies” to find out for yourself. Many people post strategies on the net without even trying them out for a while. What is most abundant are obsolete systems that in the end will only help to make you part of a vicious circle of permanent trial and error.
It is a real and compelling fact that most novice traders enter the forex market with short-term systems or trading: that is, trading in very small scenarios and charts, making many daily trades and looking for few pips in the market at the expense of risking more. I wonder if this way of trading is efficient because the number of losers is so large and if trading in the short term doesn’t expose you to the risk of being taken out of the market very easily because of the high volatility of this market? Don’t forget my dear friend that the forex market is extraordinarily volatile.