A new, and even a seasoned, trader tends to be focused on the signal that is right in front of him or her instead of the larger picture. That is just one part of trading. Account and capital management play as big, if not bigger, of a role.
Breaking It Down
One thing that gets swept under the rug often is allocation. Allocation is about capital at risk and not the number of lots you trade. Also, it makes a difference what type of trade you are doing.
My signals fall into two broad categories, directional and IV-regression. In general, IV-regression trades off a better chance of profit, but less reward to risk. For signals such as these, it is prudent to allocate more capital towards it.
The Numbers
My general rule of thumb is 4% to 7% of my total account value. Directional plays can be further broken down in to earnings-centric and non-earnings-centric signals. They are also not allocated the same.
Other Trades
Earnings-centric signals are by their very nature binary. They either win or they lose. High risk, high reward. Because of the real risk of a total loss of premium, less capital should be allocated. My rule of thumb is 2.5% to 4%.
A non-earnings-centric signal is based on more robust technical triggers. Typically, these set ups will have a higher probability of profitability with a lower reward ratio. It is my opinion to allocate a bit more to these types of signals on the order of 3%-5%.
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