Trader Risk Profiling and Position Analysis
One important overriding principle in trading is the anticipation and appli-
cation of the worst‐case scenario outcome (WCS). This means that we always
consider all situations with respect to the WSC outcome. We never plan for or
expect the best-case scenario outcome to unfold. The WCS principle is the basis of
many money‐management applications. Reverting to best‐case scenario expecta-
tions will eventually prove fatal in trading. Hence, in our example, applying the
WSC principle implies that staying in the market increases the probability that the
market may move adversely against a position. Therefore, exiting early is regarded
as a conservative move, with respect to the time of exit. But at Point 1, our exit
would be seen as aggressive with respect to the price of exit, as we exited at a less‐
favorable price. In similar fashion, exiting at point 2 would be regarded as aggres-
sive with respect to the time of exit since we remained in the market for a much
longer time, increasing the chances that price may unexpectedly move aversely
against the long position. But the exit would also be seen as conservative in price
on exit, since we exited at a more profitable price with respect to our long entry.
Refer now to Figure 26.6. Accordingly, we now understand why for a short exit,
Point 1 would be regarded as risk averse or conservative with respect to time of entry
but aggressive with respect to the price on exit, and for Point 2, it would be regarded
as aggressive with respect to time but conservative with respect to the price on exit.effects of high Leverage on being aggressive or
Conservative with respect to the price on entry
The main deciding factor for being regarded as either aggressive or conservative in
the price on entry is the amount of capital at risk resulting from entering at a less
or more favorable price. Entering long at a higher price, with all else being equal,
demands more risk capital, hence it is deemed more aggressive.
But with higher leverage, traders need only to put up a small deposit or margin
in order to participate in the market. The risk capital required is significantly less.
The running profit and loss is of far greater relevance in such situations.^ Therefore,
with higher leverage, the degree or level of aggressiveness or conservativeness
that is attributed to entries with respect to the price on entry starts to lose itsFigure 26.6 Risk Profile for Short Exits.