NEW traders often have unrealistic expectations about how much they can make and how quickly it takes to learn to trade. In reaching for the stars, it is easy to crash and burn. Starting off slowly, purposeful risk management and realistic measures of success will all help.
Elliott Winner of London Capital Group thinks that “there seems to be a disconnect in people’s minds between what they read as being a good annual return on capital and what they can make via leveraged trading. Many clients try to double their money on an almost daily basis, increasing their trade size if they win. The problem is that they have to get it right all the time as otherwise the first loss wipes them out.”
The principal danger for traders that think it will make them millions is that they often play fast and loose and so risk blowing up their account. For David Jones of IG, unrealistic expectations can lead traders to disregard risk management, an essential part of trading. Without risk management, traders are “fugitives from the law of averages,” says Jones. He thinks it is a good idea to start off taking small positions, as there is a learning curve for developing a trading strategy and style.
Malcolm Pryor, author and editor of www.spreadbettingcentral.co.uk, gives a useful analogy: “If someone said to you, here is a weekend course which will teach you everything you need to know to become a brain surgeon, and you can start on some live patients on Monday, obviously you would not believe it. Interestingly, though, many people fall prey to people promising the earth after just a short weekend of training on trading. It doesn’t take nearly as long to become a successful trader as to become a successful brain surgeon, but there is a training period and it is months in my view rather than days.” Pryor says that “if the trader can go a full year and come out break even or less than 10 per cent down this is a sign that they are doing a lot of things right, and the transition to profitable trading should be within range if mistakes are identified and rectified. In that first year it makes sense to keep position sizing as small as possible, while in apprentice mode.”
Both Jones and Winner say that hedge fund returns are a realistic comparison for returns. “A good hedge fund will make a 20 per cent return over the course of a whole year not 100 per cent over the space of a few minutes,” says Winner. Profits from both can be huge, but much of this is often on the back of a running trend, such as gold’s sustained rise. Another index for measuring success is for traders to compare the product in which they are trading with its Volatility Index, according to Winner.
There is nothing wrong with having great expectations – even Pip got his happy ending in the revised version of Dickens’s novel – but unrealistic expectations can be costly. It is unlikely that new traders will pocket a sudden windfall the size bestowed upon Pip, but with discipline, in time, decent profits can be made.