I have been an institutional trader, in various capacities, for nearly 30 years, most on the NYSE, the latter years in trading rooms for a the same investment bank. Were it me, I avoid trading the ES at all costs. I think there are much more profitable contracts to trade than the ES where there is less professional, institutional, and computerized trading activity. I am fond of the YM, 6E, NQ, and the ten year treasury.

Stops are sometimes calculated on the ES (or any contract) by using the Average True Range, obviously if the average true range is 12+ (which it has on most days of the week), it means that the previous bars have a range of 12 ticks, it really doesn’t make any sense to enter an e-mini trade with a 5 point stop, or an 8 point stop. Random noise in each bar (or the level of random noise) will increase your losing percentage/trade.

But let’s talk about that silly notion of risk as it relates to trading, as it is very difficult to quantify in futures trades. For example, assuming your favorite trade profits more than it loses; risk is usually defined as stop-loss/profit target. So the average guy would tack a 10 tick profit target with a 10 tick stop loss and think he has flattened his risk some.

On the other hand, I set an 8 point profit and 25 point stop/loss, very unbalanced and carrying a higher degree of risk than your trade. Right? Let’s assume an average true range of 10; mathematically I have a 30% better chance of succeeding than you. I had a student challenge me on this, so for one week I trade the 8-25 and he traded the 10-10. We both traded 6-8 trades a day for 5 YM contracts. By Thurs of the week, I was up more than a $1000 he asked to be excused from the trade, which I did.

The point is simple matter of mathematics; there are too many variables in every trade to fully understand the probability, in the exact sense, of the market doing this or that. However, when you try to control just one variable you can increase you probability significantly. In the above example, which is a more likely event? Will I hit my profit target of 8 or stop loss of 25? In pure mathematical terms I have a 79% chance of hitting the 8 tick stop and a 21% chance of hitting my 25 tick stop loss. I initially chose 10 as your profit target and 8 as my profit target, because there is a significant difference in the probability of moving 8 ticks and 10 ticks. Just think about the math behind what I am describing and quite possibly you will rethink your understanding of risk. Risk, in a pure sense, is based on probability and probability in, in most ways, a non-linear component. You might refer to some of Murphy’s books, as he has done some nice work in this area, though I disagree with him in a host of other areas.

Of course, there are many other factors you could try to control. For example, supply/demand in the actual contracts offered is an interesting area of study. Zero sum games can have convoluted outcomes in trading when a move to the long side simply runs out of supply, in other words, there are no sellers left to supply the buyers.

In short, I usually place emergency stops at 25, and logical exit within my own loss parameters will be my mental stop. Don’t ever trade without a stop-loss and contract count potential loss that is more than, say, 5% of your account. But for sake of argument, maybe I could get your to rethink your understanding of risk as a function of probability rather than a straight 1:1 linear relationship, which has always been the traditional line of thinking.

Finally, I think that you may have a certain risk profile…but when you enter the market, our risk becomes the same. So the game comes down to picking the right set-ups, at the right time (usually with the trend), and style. Those are the variables you can control, along with some lesser variables. I held your view of risk for many years, on a much larger scale, of course, and have only started to consider risk in the last ten years. Come visit my room and watch me trade. I win a lot, and work hard at managing the downside on my trades.

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