Last updated on February 28th, 2020
A question was asked in the Trade Room this week about how to go about how to increase your trading clip size. Clip size is simply the number of contracts you enter the market with per trade. Of course, it should be every trader’s goal to trade larger size once they are consistently profitable as this is one of the precursors to making some great profits.
But it has been my experience and apparently the experience of some who were in the room, that when you increase your clip size your results frequently take a turn for the worse and when you return to your previous clip size, your results pick up again.
Psychological effect or not?
Now it might seem like the root cause of this is pretty obvious – when a trader increases their size, there is more money on the line and so the trader might choke. On top of this, the way a trader increases their size is often not in small amounts, but in proportionally larger steps. However, while this is certainly a factor it’s not the only part of the picture.
Take for example the idea that a trading strategy is likely to be more effective in certain market conditions than others. When traders increase their size they often do so in a manner whereby they have gained enough confidence to do so. This usually means that they’ve had a run of good results. Purely from a statistical basis, this is unlikely to last. But if you add in the idea that market conditions could change, the likelihood of a prolonged winning streak after the trader has increased their trading clip size is diminished.
This isn’t meant to be empirical, but it’s merely food for thought.
So if increasing size by feel is a bad idea, then a mechanical approach must be considered. To do so a number of variables based on the trading strategy, market conditions and the trader themselves must be included.
Possible factors to take into account when doing so might include: –
- Percentage of account risked per trade
- Number of ticks risked per lot per trade
- Number of trades it would take to deplete winnings on new size
- Current level of volatility
- Current market phase
- Trading error rate
The first three variables will be the performance figures needed to increase your trading clip size, the next two take into account market condition and the last is a prerequisite for accuracy of execution.
To illustrate these ideas I’m going to use the example of a strategy trading the E-mini NASDAQ 100 Futures (NQ) and I’m only going to cover the first three factors.
The general idea is to earn enough money from the market to cover the increase in risk on the larger size and be able to take enough trades on the new size before decreasing size again, to stand a reasonable chance of having the edge play out.
So let’s say that you have a $10,000 trading account. The target risk per trade is 1% and the number of market ticks (i.e. the number of prices in the market irrespective of clip size) at risk per trade is 20. Given that a tick is worth $5 for NQ, $10,000 capital allows us to trade 1 contract and $10,000 must therefore be made in order to trade an additional contract.
If you reliably average (market conditions and error rate dependent) 5.00 points per session, it would take you around 4.62 months to double your trading size to 2 lots. But as you increase size, the time it takes to make that addition $10,000 decreases. So after a year, you would be trading 8 contracts.
Same method for reducing size
The same method can be used for reducing size – once the additional capital of $10,000 has been depleted, the size can be reduced to the previous amount.
Of course this raises the question of how much is capital is really needed to realistically trade the new size. As your clip size gets bigger, the number of consecutive losses to decrease size gets smaller too. So you may wish to place a minimum capital gain before you increase your trading clip size. How much depends on how many trades you need to give the strategy a fighting chance of showing its edge.
How to Increase Your Trading Clip Size
The ideas discussed here are purely examples of what you might consider in deciding when to increase your trading clip size. Whatever the method you do so with, if your approach to adding contracts is rule-based and takes appropriate account of additional risk, then it needn’t be the issue that many traders find it to be.