Adjusting Risk when adding to Positions

Discussion in 'Risk Management' started by bgb17, Oct 3, 2007.

  1. bgb17


    I have mentioned in other posts that I use a fairly set percentage of capital as my intitial risk per trade. One thing that has always perplexed me is how to view risk as the postion starts working in your favor and new positions are added to it.

    For example, say I am willing to risk 1% of a 1mil account. If I determine that the initial risk from my entry is $1500 per contract then I will buy 6 contracts. (1mil x 1%= 10K/$1500= 6.7 round down to 6) Ok, so I make the trade and it starts working for $3000 per contract. I'm seeing a nice consolidation and would like to add to the position on a breakout of this consolidation to continue to ride the trend. On this breakout my new stop would be directly below the consolidation range. If I was stopped out there the original position would make $2000 per contract and any of the new contracts would lose $1500 per contract.

    So how do I decide what the risk is from here and how many new contracts to add? Do I add so that there is always a 1% risk for the whole position or do I look to add extra risk? Any real word advice is appreciated since this is a real word issue that I constantly grapple with. I hope that this isn't too confusing and I will be happy to explain more clearly if need be. Thanks!
  2. In general terms I would use the equity value of the account at the proposed entry point, figure out what your stop point is in terms of risk, and calculate contracts like you did in the first place. If the new risk/contract is the same or less than where it was when you started the position, you'll be able to add.

    Here's the rub, though. Has your risk adjusted return changed? Theoretically, if the market has moved your way by some amount, the upside in the position has been reduced by a roughly equal amount. You need to consider that impact when deciding whether to add to the trade. Might be that there is a better use for the excess funds elsewhere.
  3. I am writing a computer program to model similar scaling type trading. I find that the results vary substantially with scaling interval (buying every 1 % up, or 2 %, or 3 %). Different security price histories that I test show different performance results.

    In my system risk is defined by the exit stop. Say I sell a long position if price value decreases 1 % from the last purchase price. My risk budget is always less than 1 % of the last purchase price.

    You might use a trading simulator to model the specific trades that you are interested in. I do not find any general rule.