This post will help a beginner options trader understand how to start trading and manage risk.
Fortunately, most beginners starting to trade options and/or futures do not have much cash in their trading accounts.
How can I say this?
Because when I started, I had little cash. The fact is, when anyone starts to trade, he/she is very young, and it is obvious that most young people do not have much money.
Plus, I keep getting calls from traders all over India, and I know how much most beginners have.
When I started this website in 2014, most beginners had 50k approx in their account – today, in 2015, most beginners have approx 1 lakh. Needless to say, salaries have increased, so the investment has increased.
A small account size is beneficial for beginners because when they are going through a learning phase, they are likely to make more mistakes than an experienced trader. So a small account ensures they do not do much damage to themselves.
Still, beginners need to keep some amount in their trading account so that they can practice with real money.
How much money is a good amount for a beginner?
Unfortunately, due to a recent SEBI circular trying to curb novice retail traders from the derivative markets, approx 1 lakh needs to be kept in their trading account, else they will not be able to experience how shorting options and futures trading work.
With less money, like 10k, only buying options is possible, but buying options is riskier than selling options.
Learn to Control Risk
If you are a beginner option trader, you must learn to control risk. You may have 5 lakh in your trading account that doesn’t mean you should trade with a lot of money.
The first step to controlling risk is to understand position sizing. As a small account holder, trading an appropriate position size is one of the first things you should understand.
Most websites will say do not risk more than 2% per trade, but frankly, this is impossible, as setting up a stop loss of 2% will be highly risky, and most of the time, the stop loss will be hit.
So ideal position sizing is 5%. Which means if the margin used for a trade is 1 lakh, your stop loss should be 5000. This will give you room and time to decide whether to stay in the trade or exit with a small profit.
Then, after one year, check how you fared. If you somehow managed to make even 4-5k, then you can slowly add more money to your account. Do not add more than 10k each quarter (three months). You may be misled into thinking that you made 5% and, therefore, are a good trader.
Sometimes beginner’s luck works in your favour, so it is not recommended to add too much money after a few wins. The psychological aspect of trading a 3 lakh account is much different to a 1 lakh account. If you add slowly, your mind will get some time to absorb the psychological impact of trading a large account.
5% loss in 1 lakh account is 5k but in a 3 lakh account is 15k. Of course, the profits will also increase threefold, but it is easy to see a big profit but hard to bear a big loss. By slowly increasing the amount invested, your subconscious mind will adjust to big profits and losses.
Still, 18.64 is considered high INDIA VIX.
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