Coming from a Poker background, I have seen a lot of other gambling businesses as well, apart from trading: sports betting, prop betting, roulette and all the other casino games that you play versus the house, and so on. They all play very differently, yet they have one thing in common: an existing edge can be magnified or even sustained by creative money management techniques, but an edge can not be developed by employing money management techniques. So if you are not a profitable trader yet, consider this article food for thought, but don’t try this at home.
Especially in sports betting, I have seen countless people testing hundreds of different money management techniques, including the infamous martingale, among others. In Poker, the rule of thumb was to always play with no less than 20 stacks for a limit (in other words, never risk more than 5% of your bankroll on a single game). So if you wanted to play Texas No Limit Hold’Em with a buy-in of 200$, you had to have at least 4000$. In Forex, we have the luxury of always betting exactly x% of our bankroll. In Futures, due to set contract values, we do not have this luxury, but we can come close to it depending on the size of our bankroll. Most people think that betting 5% on any one individual trade is insane. Well, let me tell you that it is insane to not even think about the possibility of going beyond 1% or 2% risk per trade. It can be done, very profitably.
It has always been hard for me to follow rules and systems over a long period of time. I need to mix things up, or I will become dull, and start making grave mistakes. But system hopping, as we all know, is detrimental to a trader. So where can I get my excitement? Yes, by gambling it up – not with my own money, but with money I won (this is actually a psychological trick and makes no sense mathematically, but it IS mathematically safe and it works wonders for the brain).
I got this idea from a professional sports better who would bet, let’s say, 50$ on a 3:1 bet. If he won it, he would win 100$ plus get his 50$ invested dollars back. He would then take his initial 50$ out and bet 100$ on the next bet (and ALWAYS take 3:1 odds if he could get them, or there was no bet). If he won that, he would now have 300$. Now he would divide those 300$ by two, and bet 150$ on the next bet. If he won that, he would now have 450$, divide that by two, and so on. He would do this until he lost a bet and then begin anew from 50$. He would ONLY lose his initial investment of 50$ if he lost the first bet. After that, he would always earn money if successive bets were winners. Additionally, if he won only two bets in a row (the first and the second one), he would now have 50$ (initial investment) + 150$ = 4 more tries of stringing together another two or more winning bets. And if he went on a streak, he would make several 100% ROI from a single run of bets. Sounds exciting? I think so. He was, in fact, the only profitable sports better I ever met (I am not exactly sure about his win rate, though).
How is this applicable to trading? As we cannot have a fixed Reward:Risk Ratio (RRR), or at least it doesn’t make sense, I had to alter his strategy a bit. I have a certain level of R-Multiple (what is R-Multiple?) I would like to reach per week so I can pay my bills and grow my account simultaneously. Let’s say, my stats show that I average 5R per week, that’s 20R a month. Let’s also assume, that my bankroll is big enough that I only need 2R per week, or 8R per month, to live of off, so I can comfortably grow my account while also accounting for volatility (which also depends a lot on win rate). But of course, I do not stop trading after reaching 5R per week. I have a stop loss to protect my downside, but I ride the hell out of an upswing as long as I can. In some weeks I can make 10R, once or twice a year even 15R.
Now when a new week begins, let’s say I have an overflow of 5R from last week. I take out the 2R for this week which I need to cover my costs, and am left with 3R. Guess what? I bet it all on the next trade. This is 3 times my usual bet size. I have gone up as high as 10 times my usual bet size. This is fun and exciting for me, and I know I have my bills covered, plus I am on an upswing at the moment and clearly in sync with the market – so it’s worth taking a shot (moving up in limits while undercapitalized in Poker is called taking a shot, by the way). If I lose it, I go back to grinding my usual bet size, sure it hurts a little, but it’s ok – it’s money I don’t need and it’s not like I gambled it away on something where I do not have an edge, this is the only thing that ever really hurts me in gambling. If I win it, I take half out, and bet that again, and so on. As I never go below a RRR of 1:1 for my trades, but usually more, if I win the first trade, I already doubled my initial “gambling stack” as I like to call it, and can then take it from there. I repeat this until I lose a bet, and then go back to grinding my usual size.
Doing it this way, I had ridiculous up spikes in my bankroll while not a single crazy down spike. Sure, when we come to bet 5 or 6 and the amount of money starts to become 10 times my usual bet size, losing that one, that stings. But on the other hand, I made a truckload of money before that, you just gotta keep pushing until that inevitable loss comes around. If you do not need to take out money to cover your costs, you are in an even better position, as your initial gambling stack will be bigger.
I highly recommend – if you are consistently profitable – to take a look at your average R-multiple per week, and your expected volatility, and then to decide on a weekly threshold above which you take out money to put into your gambling stack for a bit of (potentially very profitable) fun. The less volatile your performance is, the better. If you make 20R in one week, and lose 16 in the next, you average 2R per week, but that doesn’t mean you should gamble with 18R after a 20R winning week. If, as a daytrader, you consistenly rake in positive R per week, you are in a perfect position to add some positive variance to your portfolio. For longer term traders, I would suppose going for monthly instead of weekly averages. You can even go for daily averages, it is up to you.
The important thing is, that you are basically playing with “free” money, or “won” money, which makes you SO much more relaxed when taking the next trade that your chances of winning that one initial trade and then building up a streak are quite good.
Money won is twice as sweet as money earned. – Fast Eddie Felson
Additionally, you can mix it up once in a while and “reward” yourself with some gambling fun after having a good week. This strategy also motivates the hell out of me, as I want to have as much money as possible in my gambling stack for the next week so I can tell insane stories of gigantic bets to my grandchildren. This one strategy has helped me tremendously in boosting my bankroll and also sticking to my core strategy much easier, as I know, the excitement will come as soon as my gambling stack is big enough, which will only happen if I can be diligent enough to follow my strategy in the first place.
I have a few other “experiments” running at the moment going far beyond what is considered to be conventional and sound risk management, as I am always interested in pushing things just a bit further. The important thing is: never gamble with money you need. Only play with “free” money. And keep your initial risk small, and then ramp it up – anti-martingale or something like that.
What do you think about this idea – absolutely insane, or interesting? Are you interested in my other money management ideas? Let me know in the comments below!