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Essentially, Damage Control is this: Research shows the maximum amount you
can lose on any single trade without damaging your long-term investment
capital is 2% of your equity. So, if you have an account of, say,
$20,000.00, then you can risk no more than $400.00 on any given trade. BTW,
2% is aggressive. 1% to 1 1/2% is more conservative.
Here is how to apply the rule in determining how many contracts or shares
to buy:
Let's say you see an opportunity in ABC Widget Co. (ABC). Using whatever
system to determine the entry point, say $30.00, and the stop loss exit
point, say $28.00. This means you are risking $2.00 per share of ABC.
2% of your investment "nest egg" of $20,000.00 = $400.00. At $2.00 per
share, you can afford to buy no more than 200 shares of ABC.
If you find an opportunity to purchase a contract on, say, lumber, at
$250.00 risk, you can only trade 1 contract; if the risk is $150.00 per
contract, you can afford to purchase 2 contracts.
I know- you're thinking you can never get rich using such tight
limitations. Truth is, you can get rich, BUT IT WILL TAKE SOME TIME! The
key is realizing that you can make money in the markets only as long as you
are playing. When you're out of money, you're OUT OF THE GAME. If you find
a deal that exceeds these limits, pass on it. It pays great dividends to
wait for trade opportunities that permit tight stops.
Hope this helps...
Nate Berger
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