Trading stocks can impact you in many ways.
It can teach you time management, crisis handling, confidence building, stress management, and can make you a better person. It can also make you rich beyond imagination or flawed beyond expectation.
No doubt, the trading industry has become way more straightforward and more trader-friendly than it was a decade back. And, innovative services, like free stock API, are giving an edge to the art of profit-making.
You will still find more failure stories than success stories among traders trying their luck in the market.
So, which is that one thing that differentiates between a successful trader and a horde of unsuccessful traders?
The answer is simple – finance or money management.
The stock market can teach you many things, but it will never lead you money management. It will entice you to buy stocks destined to go south and sell stocks at a nascent stage on their journey to the top.
Here are the five best practices that you should follow to manage your finances like a professional stock trader.
Top-5 Practices To Manage Your Money As A Stock Trader
1. Money Management Includes Both Leverage & Risk
The most generous friend of a trader is leverage. With leverage, your profit potential increases massively. On the flip side, it may lead to larger, more profound losses.
Leverage is a facility through which your broker enables you to buy more stocks than your account balance permits.
For example, if your broker offers you a leverage of 4X, you can buy four times more shares than your capital allows you to. Hence, if you have US$ 25,000 in your account, you can buy 250 shares of a company whose price is $100 a piece. If you choose the leverage option, you can buy 1000 shares for the same amount.
On the one hand, leverage enables you to earn more than what is expected. But, if you are not adept at predicting a stock’s direction, you may as well lose most of your capital.
Hence, before making the most out of leverage, you should define your risk. Trading without a working risk management strategy is akin to foolishness. You may win on three consecutive days, but one loss can wipe out your entire capital.
Generally, experienced traders risk no more than 1-2% of their capital employed on a single stock. Hence, if you buy a stock whose current market price is $100, you should keep a stop-loss at $99 or $98.
Always remember that, in the stock market, preserving your hard-earned capital is more crucial than making gravity-defying profits.
2. Treat Stop-Loss As More Than A Number
Yes, the stop-loss is there to preserve your capital from going down the drain. But, if you take ten trades, and six of those hit the stop-loss, then something must be seriously wrong with your strategy.
As a trader, you have to be agile and adaptable. You need to test countless strategies and techniques. And, even after doing so much, you may feel an element of unpredictability in your trades.
It’s better to look at your trading style and take a more accommodative stance in such cases. Broadly, there are three types of traders in the stock market – indicator-dependent traders, price action traders, and news-based traders.
If you are a price action trader, you should also know what the indicators are saying. Similarly, if you are an indicator-dependent trader, understanding the supply and demand zones of stock and keeping an eye on trending news is an absolute must.
Hence, just as important keeping the stop-loss is, it is vital to ensure that your stop-loss stays like a pious number, something which your stock should rarely touch.
3. Withdraw Cash As You Can
The biggest mistake that new traders frequently make is that they rarely withdraw their profits. They would keep the amount they earned as profits in their account, hoping to earn even more money.
It’s true that in the stock market, money brings money. However, don’t let that adage guide you into staying high and dry, even when you can withdraw the money and fulfil an aspiration that prompted you to enter the markets.
An experienced trader believes in withdrawing their profits as early as possible and either spending the amount or investing it in a high-quality debt fund or liquid fund. After all, if you lose the amount you earned, there is no point in earning.
Withdrawing your profits can offer you two simple advantages. Firstly, it can keep you liquidated to capture market momentum in the future. Secondly, you can reap the benefits of diversification.
4. Copy The Legends
A stock market is a place of formula and data. All legendary traders have defined stock trading in their own, traditional ways. As a trader, you can go through their time-tested techniques and use them to manage your finances.
The most successful techniques and strategies that you can research are the following:
- Gann’s 10% Rule – Always allot less than 10% of your total account balance on a single trade.
- Fixed Fractional System – You put more funds on a stock with higher chances to go your way and less on risky stocks.
- Kelly Criterion Formula – It is a mathematical formula that ensures that you always have money to buy stocks at a price you consider attractive.
- Optimal F – This formula is good at determining position sizing, and you may need an app or a spreadsheet.
Other than the ones mentioned above, some other techniques that you may test are the Monte Carlo Simulation and the Martingale System.
5. Reduce Your Screen Time
As a trader, you may have to sift through extensive quantitative data, watch the news, scan stocks, check indicators, and whatnot. All of these can be overwhelming at times.
To keep yourself physically fit and mentally healthy, you should take breaks. But doesn’t that mean losing out on an opportunity?
An experienced trader would fix a time-slot when they would remain present in front of the screen. Usually, the market remains volatile during the opening and near the closing. The best traders always enter the market during those hours and lock-in their day’s profits.
If you are new to the market, avoiding the opening and closing hours can be prudent. As you gain experience and make volatility your friend, you can master the art of time-bound trading.
In essence, nobody can make profits all through the day. If you know the tricks of the trade, you can make profits whenever you enter the market. And, sometimes, by staying out, you are also saving your capital.
Without managing your finances effectively, you can hardly be as successful as a stock trader. In case you want to be successful in the markets and yet spend less time on screen, try an Algo Trading API.