P1: PIC/b P2: c/d QC: e/f T1: g
c09 JWBK182-McDowell April 25, 2008 16:7 Printer: Yet to come

CHAPTER 9

Using

Risk-of-Ruin

Tables and the

Optimal

f Formula

Y

ou can effectively use therisk-of-ruin principleto significantly im-

prove your bottom line. What you will learn about in this chapter is

how to control the percent of capital you risk on each trade so that

your have a minimal chance of being ruined.

There are a number of ways to calculate the percent of capital you

should risk, all of which require that you know what your current win ratio

and payoff ratio are. So, for starters, if you don’t already know what those

numbers are, you need to put that project at the top of your to do list. (See

Chapter 11 to learn more about how to calculate these numbers.)

YOUR SURVIVAL DEPENDS ON HAVING

RESPECT FOR THE RISK OF RUIN

Risk of ruin (ROR) has been extensively studied by mathematicians and by

traders, and is the basis for most money management systems. The theory

is based on a formula that will tell you what the chances are that you, given

a historical win ratio and payoff ratio, are likely to go completely bankrupt

and to be ruined.

Ideally you want to design a money management system that will pro-

tect you from ruin and will give you 0 percent likely (this is not guarantee)

75