The ratio of your assets/liabilities must be at least 2:1. This can help you to keep tabs on your overall financial picture and enable you to efficiently manage your money. Miracle of Compounding. As early as you start investing your money, the sooner you enable the power of compounding to work for you. Money Pro works great for home finance management, control of travel budget and even for tracking business expenses. The app exists from 2010 on iOS/Mac (over 2.5 mln downloads worldwide) and now is available on Windows. Money Pro is a simple tool to track and manage your finances with ease and deep understanding. Wealth Management. More likely to have pro-growth incentives like “back to work” bonuses as states were. Had to work out several problems to get the aid money moving. Distributed with a mean of $0.6 million and a standard deviation of $2.0 million. How much equity capital in addition to that in Table 2.2 should regulators require for there to be a 99.9% chance of the capital not being wiped out by losses? There is a 99.9% chance that the profit will not be worse than 0.6 − 3.090 × 2.0 = −$5.58 million.
- Money Pro 2 0 – Manage Money Like A Probability Distribution
- Money Pro 2 0 – Manage Money Like A Probability Calculator
Every person in this planet wants to earn enough money to spend a better life with secured future. Some of them have a dream to become richer and gain more wealth. But how many of us are aware of some basic fundamentals related to financial literacy and money management? Being able to effectively manage your money will make life to flow much smoother and save you from many potential headaches like debt.
I believe that most of us struggle financially because we are kept under false perceptions about money, wealth, and prosperity. But if you’re serious about building positive cash flow in your life, you have to start with the basic steps of money management as explained below:
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Betting a Favorite: The odds for favorites will have a minus (-) sign, and represent the money you need to risk to win $100. So if you're betting on the Packers at -140 against the Vikings, that means Green Bay is a slight favorite. You need to risk $140 to win $100 on the Packers. If they win, you profit $100 and get your original $140 back.
Understanding of Assets & Liabilities
Any resource that generates a passive income for us is called an asset. It may be your home, property, jewelry or investments. On the other hand, liability is something that extracts money from your bank or pocket. Liabilities might include a mortgage, student loans, rental home, and credit card debt. Your net worth is calculated annually by adding the value of all your assets and subtracting your liabilities. Your assets should always be greater than liabilities. The ratio of your assets/liabilities must be at least 2:1. This can help you to keep tabs on your overall financial picture and enable you to efficiently manage your money.
Miracle of Compounding
As early as you start investing your money, the sooner you enable the power of compounding to work for you. Compounding is the addition of interest to the principal sum, which also includes the accumulated interest of previous periods. It means that you’ll get interest not only on principal amount but also on the interest you’ve generated so far. It can significantly boost your investment returns over the long term. If you are not interested in math and want to calculate the compound interest then you can simply click here for online calculator.
Mutual funds offer one of the easiest ways for investors to reap the benefits of compound interest. Since the interest-on-interest effect can generate incremental returns based on the initial principal amount, it has been sometime referred as “miracle of compounding”.
Inclined towards Investment
Investing is one of the most effective way to manage your money. When you are young and don’t have so much financial obligations, then investment is not often used to be your priority. But do you know that this is the best time to save and invest our money? It’s quite necessary to have an investment plan for your cash on hand to maximize its earning potential. Understanding the time value of money and the exponential growth created by compounding is essential to optimize your income and wealth allocation. The miracle of compounding can work for you when it comes to your investments and can be a powerful factor in wealth creation.
Whether you invest in stocks, gold or real estate, you need to manage your investment portfolio like a business. By thinking strategically about your investments and being held accountable to the bottom line, you can identify ways to make your investments more effective and manage your money.
Diversification of Income
You can diversify your income by having multiple resources of earning money. By exploring some ideas to create passive income as per your talent and skills, you can easily grow and manage your money. It’s not so difficult to start looking for a part-time business or other way to earn a little more income while following your passion. But if you are aimlessly pursuing opportunities without thought for the bigger picture, you can easily find yourself holding a portfolio that does not allow you to realize your dream. According to me, investment and passive income is always an evergreen option to create an extra source of earning. Fission app.
Cut Back All Doodads
Doodads are those extra things in life that we all crave but don’t have a huge need. It might be a sport bike or going out to dinner at expensive restaurants. Whatever your doodads are, stop the habit of purchasing them impulsively just to impress others. This habit will extract all the money you earn and thus disable to save something for investment. Admittedly, this is where your self-discipline and willpower come into play.
In short, start getting in the habit of watching how you spend a dollar here and a dollar there. Give yourself a month and just check on how much you can save by not buying the expensive stuffs or not going out to dinner. Every single thing that we do comes at a cost, the cost being everything we could have done instead of what we actually did. Hence it is very compulsory to stay mindful of spending within your means.
Conquer Bad Debt
There are mainly two types of debts: Secured debt and bad debt. Secured debt is the debt that has collateral backing it up. Typical examples would include an education or home loan. Whereas bad or unsecured debt lacks any collateral that usually includes credit-card bills, personal loans, and medical bills. Your goal should be to get rid of bad debt as quickly as possible so that you can start looking towards a better future. Then you can start building assets that will generate the passive income to pay for your electricity bills, insurance policies, and more.
Unusual purchasing habit and impulsive use of credit cards are the major reason behind your bad debt. And the sooner you can eliminate it, the more in control of your finances you will be. Changing bad habits and getting out of debt is how you learn to manage your money. The best news is that those individuals who have the willpower to follow these simple steps will find themselves financially strong and free of major bad debt within a few years.
Managing your money might be confusing sometimes but it is not hard to do so. There is a lot to learn, regardless of how much you already know. Once you begin executing your plan in the real world, you will certainly recognize a need of making adjustments. You need to be agile in your investing by being quick when responding to changes and opportunities. It is a lifelong process. But the good news is that the hardest part of the process is starting to manage your money. Once you make the commitment, life really does get easier and easier.
The 2 Percent Rule is a basic tenet of risk management (I prefer the terms 'risk management' or 'capital preservation' as they are more descriptive than 'money management'). Even if the odds are stacked in your favor, it is not advisable to risk a large portion of your capital on a single trade.
Larry Hite, in Jack Schwager's Market Wizards (1989), mentions two lessons learned from a friend:
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- Never bet your lifestyle -- never risk a large chunk of your capital on a single trade; and
- Always know what the worst possible outcome is.
Hite goes on describe his 1 percent rule which he applies to a wide range of markets. This has since been adapted by short-term equity traders as the 2 Percent Rule:
NEVER RISK MORE THAN 2 PERCENT OF YOUR CAPITAL ON ANY ONE STOCK.
This means that a run of 10 consecutive losses would only consume 20% ofyour capital. It does not mean that you need to trade 50 different stocks! If you use stop losses, such as ATR Trailing Stops, your capital at risk is normally far less than the purchase price of the stock.
How to Apply the 2 Percent Rule
- Calculate 2 percent of your trading capital: your Capital at Risk
- Deduct brokerage on the buy and sell to arrive at your Maximum Permissible Risk
- Calculate your Risk per Share:
Deduct your stop-loss from the buy price and add a provision for slippage (not all stops are executed at the actual limit). For a short trade, the procedure is reversed: deduct the buy price from the stop-loss before adding slippage. - The Maximum Number of Shares is then calculated by dividing your Maximum Permissible Risk by the Risk per Share.
Example
Imagine that your total share trading capital is $20,000 and your brokeragecosts are fixed at $50 per trade.
- Your Capital at Risk is: $20,000 * 2 percent = $400 per trade.
- Deduct brokerage, on the buy and sell, and your Maximum Permissible Risk is: $400 - (2 * $50) = $300.
- Calculate your Risk per Share:
If a stock is priced at $10.00 and you want to place a stop-loss at $9.50, then your risk is 50 cents per share.
Add slippage of say 25 cents and your Risk per Share increases to 75 cents per share. - The Maximum Number of Shares that you can buy is therefore:
$300 / $0.75 = 400 shares (at a cost of $4000)
Quick Test
Your capital is $20,000 and brokerage is reduced to $20 per trade. How many shares of $10.00 can you buy if you place your stop loss at $9.25?Apply the 2 percent rule.
Hint: Remember to allow for brokerage, on the buy and sell, and slippage(of say 25 cents/share). Cornette 1 9 – launch tasks automatically enable.
Answer: 360 shares (at a cost of $3600).
Capital at Risk: $20,000 * 2 percent = $400
Deduct brokerage: $400 - (2 * $20) = $360
Risk per Share = $10.00 - $9.25 + $0.25 slippage = $1.00 per share
Maximum Number of Shares = $360 / $1 = 360 shares
Deduct brokerage: $400 - (2 * $20) = $360
Risk per Share = $10.00 - $9.25 + $0.25 slippage = $1.00 per share
Maximum Number of Shares = $360 / $1 = 360 shares
Is 2 Percent Suitable For All Equity Traders?
Not all traders face the same success rate (or reliability as Van Tharp callsit). Short-term traders usually achieve higher success rates, while long-term traders generally achieve greaterrisk-reward ratios.
Success Rate (Reliability)
Your success rate is the number of winning trades expressed as a percentageof your total number of trades:
Success rate = winning trades / (winning trades + losingtrades) * 100%
Risk-Reward Ratios
Your risk-reward ratio is your expected gain compared to your capital at risk (it should really be called the reward/risk ratio because that is the way it is normally expressed). If your average gain (after deducting brokerage) on winning trades is $1000 and you have consistently risked $400 per trade (as in the earlier 2 percent rule example), then your risk-reward ratio would be 2.5 to 1 (i.e. $1000 / $400).
Risk-Reward ratio = average gain on winning trades /average capital at risk
Confidence Levels
If we have three traders:
Trader: | A | B | C |
Time frame: | Short-term | Medium | Long-term |
Success Rate: | 75% | 50% | 25% |
Risk-Reward Ratio: | 1.0 | 3.0 | 10.0 |
Trader A
Trades short-term and averages 125% profit over all his trades. Vuescan 32.
Winning trades: | 75% * 1 | 0.75 |
Less: Losing Trades | 25% * 1 | -0.25 |
Average Profit | .50 | |
As a percentage of capital at risk | 50% |
Trader B
Trades medium-term and averages 200% profit over all his trades.
Winning trades: | 50% * 3 | 1.50 |
Less: Losing Trades | 50% * 1 | -0.50 |
Average Profit | 1.00 | |
As a percentage of capital at risk | 100% |
Trader C
Trades long-term and averages 325% profit over all her trades.
Winning trades: | 25% * 10 | 2.50 |
Less: Losing Trades | 75% * 1 | -0.75 |
Average Profit | 1.75 | |
As a percentage of capital at risk | 175% |
This does not necessarily mean that Trader C is more profitable than A.Trader A (short-term) is likely to make many more trades than Trader C. You could have the following situation:
Trader: | A | B | C |
Time frame: | Short-term | Medium | Long-term |
Average Profit/Trade | 50% | 100% | 175% |
Number of Trades/Year | 300 | 100 | 40 |
Times Return on Capital at Risk | 150 | 100 | 70 |
Capital at Risk | 2% | 2% | 2% |
Annual % Return on Capital | 300% | 200% | 140% |
Relative Risk
We now calculate the relative risk that each trader has of a 20% draw-down.Use the binomial probability calculator at http://faculty.vassar.edu/lowry/ch5apx.html:
Trader | A | B | C |
Success Rate | 75% | 50% | 25% |
Probability of 10 straight losses | 0.0001% | 0.1% | 5.6% |
Obviously, the higher your success rate, the greater the percentage that youcan risk on each trade.
Bear in mind that, with a higher risk-reward ratio, Trader C only needs onewin in 10 trades to break even; while Trader A would need five wins. However, if we compare breakeven points, it is still clear that lower success rates are more likely to suffer from draw-downs.
Trader | A | B | C |
Number of wins (out of 10 trades) required to break even | 5 | 2.5 | 1 |
Normal Success Rate | 75% | 50% | 25% |
Probability of making a net loss in 10 trades | 2.0% | 5.5% | 5.6% |
Low Success Rates
Although your trading system may be profitable, if it is susceptible to large draw-downs, consider using a lower percentage of capital at risk (e.g. 1 percent).
Back to the Real World
In real life trading we are not faced with a perfect binomial distributionas in the above example:
- gains are not all equal;
- some losses are bigger than others -- stop losses occasionally fail when prices gap up/down;
- probabilities vary; and
- outcomes influence each other -- when stocks fall, they tend to fall together.
Covariance
The biggest flaw in most risk management systems is that stock movementsinfluence each other. Individual trades are not independent. Markets march in unison and individual stocks follow. Of course there are mavericks: stocks that rise in a bear market or collapse in the middle of a bull market, but they are a handful. The majority follow like a flock of sheep.
Thomas Dorsey in Point & Figure Charting gives an example of therisks affecting a typical stock:
The risk of the market moving against you is clearly the biggest single risk factor. How do we protect against this?
Protecting your Capital from a String of Losses
The 2 percent rule alone will not protect you if you are holding a large number of banking stocks during an asset bubble; insurance stocks during a natural disaster; or technology stocks during the Dotcom boom. We need a quick rule of thumb to measure our exposure to a particular industry or market.
Independent Sectors
Limit your exposure to specific industry sectors. Not all sectors arecreated equal, however. Industry groups in the (ICB or GICS) Raw Materials sector have fairly low correlation, and can be treated as separate sectors, while industry groups in most other sectors should be treated as a single unit.
We can see from the above chart that Chemicals and Containers & Packaging tend to move in unison and should possibly be treated as one industry sector, but other indexes shown are sufficiently independent to be treated separately.
Sector Risk
As a rule of thumb, limit your Total Capital at Risk in any oneindustry sector to 3 times your (maximum) Capital at Risk per stock(e.g. 6% of your capital if you are using the 2 percent rule).
This does not mean that you are limited to holding 3 stocks in any one sector. You may buy a fourth stock when one of your initial 3 trades is no longer at risk (when you have moved the stop up above your breakeven point on the trade); and a fifth when you have covered your risk on another trade; and so on.
Just be careful not to move your stops up too quickly. In yourhaste you may be stopped out too early -- before the trend gets under way.
I also suggest that you tighten your stops across all positionsin a sector if protective stops are triggered on 3 straight trades in that sector (within a reasonable time period). By protective stops I mean a trailing stop designed to exit your position if the trend changes (e.g. a close below a long-term MA).A reasonable time period may vary from a few days for short-term trades to several weeks for long-term trades.
Market Risk
Money Pro 2 0 – Manage Money Like A Probability Distribution
You can limit our market risk in a similar fashion.
Limit your Total Capital at Risk in the market to between 5 and 10 times your (maximum) Capital at Risk per stock (e.g. 10% to 20% of your capital if you are using the 2 percent rule). Adjust this percentage to suit your own risk profile. Also, the shorter your time frame and the higher your Success Rate, the greater the percentage that you can comfortably risk.
It is also advisable to tighten your stops across all positions if protective stops are triggered on 5 straight trades within a reasonable time period. Protective stops do not have to be the original stops set on a trade. You may make an overall profit on the trade, but the stop must indicate a trend change.
Money Management Summary
Money Pro 2 0 – Manage Money Like A Probability Calculator
A general rule for equity markets is to never risk more than 2 percent of your capital on any one stock. This rule may not be suitable for long-term traders who enjoy higher risk-reward ratios but lower success rates. The rule should also not be applied in isolation: your biggest risk is market risk where most stocks move in unison. To protect against this, limit your capital at risk in any sector, and also your capital at risk in the entire market, at any one time.