The most frustrating thing I encountered when I first started trading was that I was frequently told that I could not start trading properly until I had at least £10,000 saved up, and that even then I was pushing it. Well, I didn’t have £10,000 spare and in fact, only had £500. What was I to do? Abandon all hope of escaping the rat race to become a simple trader because I was told to?
You guessed it, of course not! I ploughed on anyway with my tiny trading pot and, in fact, ended up losing it all a few months later. Fortunately though, it was not my lunch money and would otherwise only have been spent on an iPad or some other toy that I didn’t really need so it worked out alright in the end.
Almost 18 months have passed since I started trading with £500 and I’m still trading now – and profitably – but it did take a few goes to get it right. This got me to thinking about how I could help you avoid that first £500 loss so that you can actually start trading profitably right from the start – even with a small account size.
In order to do that though, I’ve had to enlist the help of a much wiser trader than myself, because the [sometimes] harsh reality of this game is that the longer you do it, the more you understand it and the better you get at it.
Before you can trade well, you first need to
understand how easy it is to trade bad.
Faced with this fact, I’ve been fortunate enough to steal a few moments of Andy Richardson’s time. Andy is a full-time trader and founder and editor of Financial-Spread-Betting.com – A Trader’s Guide. He has been writing tips and information to help spread bettors for more than 7 years. I asked Andy a few questions about how tough it can be for new traders with small account sizes.
It’s my hope that, by first of all seeing everything that can go wrong when you trade this way, by the time I get to telling you how I did it (in my next post), you’ll have already assimilated everything I did wrong in those early stages and will be able to avoid doing the same.
A Few Minutes with Andy Richardson, Founder of Financial Spread Betting.com
When did you start trading?
I think it’s been more than 16 years ago now. I’ve always had an interest for the financial markets and my very first investments were sovereign emerging countries bonds like the ones of Argentina! At the time I thought these represented lower risk than shares (!) and although I still invest in bonds I prefer having a more mixed portfolio across securities, fixed-income bond products and highly liquid assets like cash and gold these days.
What markets do you trade?
At the moment I’m mainly trading shares and following the gold price. I tend to focus on a few shares in a few industries and try to learn everything I can about the companies and the industries in which they operate. As such I follow them on a day-to-day basis (have them on a Google watchlist; on a separate monitor so I know exactly how they are moving) and try to wait for the very best of opportunities when it either just seems like outrageous opportunities are staring at you in the face or when I’m reasonably convinced that the risk-reward ratio is very favourable.
I’ve specialized in internet gaming shares for many years but also traded banking shares in the credit crunch. I’m also taking an increasing interest in gold and silver shares. But in my experience you definitely don’t need to trade every day to make money and it’s good to have plenty of cash around so that you can take advantage of opportunities as they arise.
Why do you think it is that almost all new traders who start with small (less than £5000) account sizes suffer major drawdowns?
The problem with small accounts is that it doesn’t really leave much leeway for mistakes. You are faced with the dilemma of either dramatically increasing your risk of wipe-out by taking big positions in relation to your account balance or having to satisfy yourself with very modest gains. Most traders won’t be happy with small gains particularly if they come to spread betting with the hope of substituting their 9 to 5 job with an income from trading.
Even worse, some people are unemployed and think they can replace their full-time job with trading; that puts a lot of pressure on them to perform and in my experience too much stress and pressure won’t do you any good in trading.
In fact if you go to sleep stressed at night it is likely that this is a good indicator that you are utilizing too much leverage. A small account also tends to restrict you in dealing to just a few markets; that is not good for diversification and spreading your risk across multiple sectors. I’ve heard that the average spread betting account is started with just £1000. For me that is madness; £1000 might be okay to play and experiment with small stakes but I wouldn’t think of opening an account with less than £10,000 for serious dealing…
Could you explain briefly how the spread betting companies profit from inexperienced traders?
Most traders have the misconception that spread betting companies are out to get them and that client losses amount to broker gains. While it is true that the provider is in most instances your counterparty it is also a fact that you need to have a counterparty to trade; irrespective if this is another speculator with an opposing market view or a broker. It is also an accepted statistic that the majority of traders are net losers; the statistic is that as much as 85% of traders are net losers and it is good to keep this in mind.
I believe that spread betting providers treat very small positions differently to larger positions; in some cases they won’t hedge the risk on a 1:1 basis. Providers will in most cases have a balance of net long and short client positions and in some cases they will take on some risk themselves or just hedge the net exposure of client positions. In any case it is best if your interest and the interest of spread betting companies is aligned; providers want you to keep trading so they continue getting commissions but they don’t want you to scalp them as they aren’t able to hedge such positions.
If you could give new traders with small account sizes any useful tips to get started, what would they be?
Unfortunately, a small account will restrict you and I can’t see how you can have many open positions with a trading account of say, £2,000; I would recommend such traders to try getting in with a more meaningful account size or otherwise restrict oneself to opening just a few positions.
One thing I’d say for sure is to urge new traders to use leverage prudently. If you have £5,000 in your account, then you shouldn’t take exposures bigger than £10,000 or at least try to keep times where you’re highly leveraged to a minimum. It is all very nice and well when the markets are going in the direction of your trades but distress quickly takes over if you are losing money. Most people who take on too much leverage will keep holding positions hoping that markets will eventually turn round and recover and if they don’t, they will keep holding until one day when everything is crashing and it feels like it’s ‘Armageddon’ they will exit their positions with one final act in desperation suffering huge losses in the process (and there were plenty of Armageddon days in 2008!)
Spread betting, or any trading for that matter, is no quick, easy way to riches and can be even more dangerous than gambling. With gambling you know that you are playing and there is a good risk that you’ll lose the money you put at risk so you tend to play with small amounts, however most traders will deal in much bigger amounts because for them trading is investing.
But investing is very much different to trading – I’ve traded many shares successfully whose companies are now bust; Northern Rock, Bradford & Bingley, Alliance & Leicester, Game Group, HMV, Woolworths to name a few – I’ve made money trading such companies because I was quick to enter and exit positions without getting myself emotionally involved; yet these companies are now out of business. As such it really feels like walking on a rope on the edge of a precipice sometimes and trading is much closer to gambling than one may think.
One thing I’d say for sure is no matter how confident and how comprehensive you’ve researched a share is to never ever overbalance yourself whether this is by averaging down or by taking on too big a position; I’ve painfully experienced this myself with both Rank Group and 888; the latter went as low as 28p in 2011 when I had bought it at an average of 60p! [now trading at 176p].
Are there any books, resources, websites you’d recommend for the new small account trader to help them get started trading profitably?
I’d recommend a read of Market Wizards which has many examples of traders and investors that have made big amounts utilizing diverse trading strategies and trading different markets. Some don’t even make use of stops so they are exposed to the risk of wipe-out.
Jesse Livermore is another market trader who ended up making and losing fortunes, making fortunes and losing it again. His story is shared in Reminiscences of a Stock Operater by Edwin Lefevre. Livermore even added to losing positions of bust companies hoping they would recover but in the end he took his own life.
Having said that spread traders can learn a lot from Livermore’s experiences particularly how taking on big positions and adding to them can quickly make or break you and how prevalent is market manipulation.
Really great stuff, Andy, thanks for your time. I really appreciate it and I’m sure my readers will too. One more thing though, got any tips for this week? 😉
– Andy didn’t come back to me with any tips, I guess that’s a lesson in itself!
So What Now For Small Account Traders?
Heed the lessons above well, because they have been well earned, and unless you want to blow up a few grand, make sure you find a way to build them into your world view for every future trade (see my last post on trading intuition to understand why world views are important in trading).
Later in the week, I’ll post up my follow up to this post, where I explain to you how I finally did manage to get started trading with just £500, and how I attribute it more to my study of martial arts and taoist philosophy rather than a better understanding of good ‘trading systems’ and ‘setups’.
As always, if you like it, comment, if you don’t like it, comment. Or you can always catch me on twitter (@PitVillTrader) if you like.