Size Matters

Many stock traders start by trading very small sizes, such as 100 shares per trade, and work upwards from there as they gain experience and funds. The same applies to futures traders, although to a lesser extent because most futures contracts are worth more per contract per tick than 100 shares (which equate to $1 per tick); in other words stock traders have the opportunity to start smaller.

As stock traders increase their size, there is usually a tendency to remain with fixed sizes per trade; for example, I know many traders always play 1000 shares at a time, making every 1 cent move worth $10.

Traders who work in this fixed manner are missing out on an opportunity to increase the number of trades available to them. Allow me to explain. When a trader looks at a chart setting up, one of the aspects of any potential trade s/he will be considering is the reward to risk ratio and how it sits with their own money and risk management profile. For example, let us assume we have an account balance of $30k, and a maximum risk per trade of 1% of account size, a common enough scenario. This gives a maximum risk of $300 per trade. Dealing exclusively in 1000 shares at a time, this means we are willing to take a maximum loss* of 30 cents on any one trade. Certainly we have every chance of finding good trades every day where a 30 cent stop is sensible, but what about the hot-stocks of the day that are showing great volatility and range? A fairly recent example of such a stock is TASR, which has put in some stunning intraday moves runs of several dollars at a time. With our 1000 share trades, most of these moves on TASR will have been out of bounds simply because it has not been possible to trade them with a 30 cent stop indeed the spread has been 25 cents or more for much of the time. If however, we were to reduce our size, we could increase our stop without increasing the maximum risk to capital. If we wanted to trade TASR with a stop of 90 cents, trading 330 shares would expose us to a maximum loss* of $297, i.e. within our risk reward parameters. The bigger expected return from the trade would make up for the smaller profit per cent gained, and very often the moves on such stocks are proportionally greater than the required reduction in trade size. And so, by considering size in each trade, it becomes possible to actually increase the reward to risk ratio in our favour, and open up a whole range of trading opportunities that we may otherwise have to pass by.

*Maximum loss figures assume no slippage.

Harvey can be contacted via his website, where you can also read about his day trading course

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