Clearly, any person who trades does so with the expectation of generating profits. We take risks to acquire rewards. The question each trader ought to answer, however, is what kind of return does he or she expect to make?
This really is an extremely important consideration, mainly because it speaks directly to what type of trading will take place, what market or markets are suitable to the purpose, plus the types of risks required.
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Let s start out simple. Suppose a trader would like to make 10% per year on a really consistent basis with small variance. You will find a variety of options out there.
If interest levels are sufficiently high, the trader could basically put the money in a fixed income instrument like a CD or perhaps a bond of some kind and take relatively little risk.
A trader seeking 100% returns every year would have an extremely different situation. This individual won't be looking at the cash fixed earnings market, but could do so by way of the leverage offered within the futures market.
Similarly, other leverage based markets are more likely candidates than cash ones, perhaps such as equities. The trader will almost certainly require higher market exposure to accomplish the goal, and most most likely will have to execute a larger quantity of transactions than in the prior scenario.
As you can see, your objective dictates the strategies by which you achieve it. The end definitely dictates the means to an excellent degree.
There is certainly one other consideration in this particular assessment, though, and it is actually one which harks back to the earlier discussion of ability to lose.
Trading systems have what are normally referred to as draw downs. A draw down would be the distance (measured in % or account/portfolio value terms) from an equity peak towards the lowest point promptly following it.
For instance, say a trader's portfolio rose from $10000 to $15000, dropped to $12000, then rose to $20000. The drop from the $15000 peak to the $12000 though could be regarded as a draw down, in this case of $3000 or 20%.
Each and every trader should establish how big a draw down (in this case commonly thought of in percentage terms) he or she is willing to accept. It is very much a risk/reward choice.
On one extreme are trading systems with very, very small draw downs, but additionally with low returns (low risk - low rewards). On the other extreme are the trading strategies with substantial returns, but similarly substantial draw downs (high risk - high reward).
Certainly, each and every trader's dream is a system with high returns and little draw downs. The reality of trading, however, is often less pleasantly somewhere in between.
The question may be asked what it matters if large returns is the objective. It can be quite simple. The more the account value falls, the larger the return necessary to make that loss back up.
That means time. Substantial draw downs have a tendency to mean long periods between equity peaks.
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