the hAnDbook of teChnICAL AnALySISing limits the losses in either scenario by allocating a fixed percentage of original
capital to narrow stops and a fixed percentage of current capital for stopsizes that
exceed a fixed threshold size. The procedure for determining the proportional
tradesize is as follows:
- Do a backtest to find the average stopsize for at least 300 to 500 trades (if
possible). - Calculate the two standard deviation value based on all the stopsizes in the
sample. - Add this two‐standard deviation value to the average stopsize (this represents
the proportional stopsize). - Determine the maximum percentage of current capital to risk for each trade
and calculate its corresponding dollar value risk per trade. - Divide this dollar value risk per trade by the proportional stopsize (this repre-
sents your proportional tradesize).
Therefore, the trader would initiate trades based on the proportional trade-
size for all trades where the stopsize is at or below the proportional stopsize. For
stopsizes that exceed the proportional stopsize, calculate the tradesize by sim-
ply dividing the maximum dollar value risk per trade by the stopsize. The term
proportional refers to the percentage risk allocated per trade that is initiated for
entries with stopsizes at or below the proportional stopsize. For such entries, the
percentage of risk will vary proportionally with the stopsize, where the maxi-
mum risk will always be capped at the maximum percentage risk per trade. For
a more detailed description of the tradesizing issues that plague traders, refer to
Chapter 28.
figure 5.39 Stopsizing Dependent on Breakout or Barrier Type Entries.