I remember when I was at a prop firm I had a daily loss limit and when I have hit it I had to stop trading for the day. I did not think about back then but now I wonder why it was a fixed, arbitrary dollar amount? Right now I am trying to find the optimal solution for managing this - from among the following: - daily loss < largest losing day - daily loss < average losing day - daily loss < average winning day x winning days/losing days ratio I also consider whether to take the overall PnL into account, or use a separate loss limit for each product traded. I have no idea how to approach this. Any advice most welcome.
Because > then X amount, you'll get too emotional, too likely to risk too much to get X back and on a day when your not in tune with the market in the first place = likely even bigger loses.
These firms can have 100's of traders. They don't have the time, resources or inclination to oversee individual stop order strategies.
I think I have come up with the best solution: Daily loss limit = average daily number of trades x win ratio x average win If, on average, I make 10 trades a day and 60% of them are winners yielding $300 each, I can expect to have $1,800 in winning trades. Hence, the losses should not exceed what I expect to make on an average day to keep profit in the "non-negative" area. Do you think this formula makes sense? Also, would you apply a separate limit for each product, or just the overall limit for the account?
I like this thinking. Does the loss include open positions? As in, if you exceed the loss in a currently open trade, can you not enter a new trade or is it on realized PnL only?
Realized or open PnL is another tough choice - I think it is better to go with realized as otherwise you will be "trading your PnL" and not basing your trading decisions on the market behaviour. So, in theory this limit might be breached but usually only slightly
I've had quite a bit of experience with prop futures firms. From my experience, the daily stop-loss is not arbitrary - it's fixed for all new and intermediate traders. Traders who have been big earners at the firm are, of course, given a lot more rope - and are even allowed to carry open futures positions. But they have earned that right. Now, as a caveat, a new trader who has an established track record might have a substantially larger daily risk limit starting out as compared to, let's say, a real newbie. A firm might start a new guy, and the principals might agree to risk, let's say, $35K on him. The Risk Manager might assign, as an example, a $1K per day loss limit. That's smart, because the idea is for the trader to learn, to survive, to improve his or her skill set, and to build capital. That proposition takes time. And you are entirely correct - most firms have those daily risk limits hard coded into their systems, and as you mentioned those traders are literally frozen out of the system for that day. If a trader is undergoing a difficult losing streak, in fact the risk manager might reduce that trader's daily risk limits and position sizing until he finds consistency. Having said all that, from my experience the principals at most any prop futures firm are quite anxious in fact to push hard for a trader to lever sizing and scale things up as dramatically as that trader can handle it. I have literally seen guys who started trading one lots in the Bund and six months later they were slinging around 100 lots. In the eyes of a firm principal - a trader who can put together, let's say, 15 positive trading days in a month and shows responsible position management skills is a very valuable asset that needs to be levered ASAP. So, consistency gets rewarded big time. And if a trader can show good consistency and discipline with one lots a prop firm principal wants that guy to be trading thousand lots as soon as he can handle it. Some of these prop firms have traders who handle stupid size. They've earned the right. Now there is one universal truth that I have noticed. Prop firm principals HATE it when a trader gives away his month in a day. If you give away your week in a day, it gets noticed but depending upon how good your track record has been to date it might not get mentioned. Personally, when I reached a limit where I was down "a week" a risk manager didn't have to say a word. I got flat, left, and headed for a bar. I had to support a family with my trading, and I just couldn't keep a wife and kids content if I let a bad day or two take away my month. I had personal stop-loss levels that I kept. Trading is the ultimate meritocracy, and you can't bullshit your way out of it. Hope that helps, YMMV.