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Here is a simple question : The S&P 500 futures is trading at 4000. Trader X has $10 000 in his trading account, his logical stop is 8 points away from his buy entry point and his percentage stop is 4% of trading capital.
What is the maximum leverage he can use in this example?
At most brokers, a $10,000 account, you won’t be able to trade 1 S&P 500 e-mini ES futures. You can only trade micro e-mini MES futures.
This is because one ES contract represent 4000x$50 = $200,000 value. Without any leverage (margin), you need a $200,000 account to trade 1 ES contract.
Most brokers will allow client to use leverage (margin) to trade ES contract for a much smaller account. For example, at interactive brokers, the margin requirement for ES future is $13,935 if you want to keep position overnight.
So, to trade even 1 ES future, you need at least at least an $15,000 account, and this represents $200,000 / $15,000 = 13X leverage.
In my Zen1 system, I chose the $25,000 initial account, and this represent roughly $200,000 / $25,000 = 8X leverage. In this account, initially I cannot increase the leverage because to trade 2 ES futures, I would need the account value to exceed 2x$13,935 = $27,870.
Also the 8 ES point stop is too small, it would be triggered mostly within a few minutes, especially in a volatile market. The stop has to be dynamically adjusted based on your algorithm.
1 SP represents standard S&P future contract and it is valued at 250x4000 = $1 million. The value is too high for most people to trade it.
1 ES represents a mini standard S&P future contract and it is valued at 50x4000 = $200,000
1 MES represents a micro standard S&P future contract and it is valued at 5x4000 = $20,000
No matter which contract type you choose, the leverage = the value it represents / the margin requirements. Just use ES (or MES) as an example, the maximum leverage (in IB) would be $200,000 / #13,935 = 14X. Even you don’t trade it overnight, you can increase it to $200,000 / $9,755 = 20X.
Average daily 1% = 4000x0.1 =40 points. The ES/MES can often jump up/down 10 points within a few minutes.
Take today’s market for example: today high - low = 70 points. The red circles below, the ES up/down more than 10 points. Fortunately, my Zen1 got 19 points ($950).
The S&P 500 can jump all it wants, it still has to respect support and resistance lines… most of the time.
There is no certainty in trading, only probable scenarios, but the risk element is the only thing we can control, as you know.
You still did not answer the question by the way :
“The S&P 500 futures is trading at 4000. Trader X has $10 000 in his trading account, his hard stop is 8 points away from his buy entry point and his percentage stop is 2% of trading capital.
What is the maximum leverage he can use in this example?”
I already answered your question. For an $10,000 account, you can only trade micro e-mini MES. Regardless the stops and x% of capital, you have to satisfy the broker margin requirements (otherwise they won’t let you trade). For MES, 1 contract value is 1/10 of ES (which is $20,000), margin reequipment is also 1/10 of ES (which is $1,393). So the maximum leverage is the same: 14X if you want to keep position overnight, and 20X if you only trade during the regular stock market trading hours. So you could trade between 1 MES to maybe 7 MES max (for overnight position).
It still depends on if you have a good algorithm. With 10x leverage, it’s likely the stops will be frequently triggered. If the algorithm is not very good, the system won’t have a profitable outcome because the loss may be more than the profit generated.
If the algorithm is good, even the stops are frequently triggered, the winning trade profits may be more than the stop losses overall. For example my Zen1 system each trade profit : loss ratio is about 2:1.
Still, with high leverage, the need for a good algorithm is much higher than an algorithm with low leverage, because when you have multiple stops losses in a row, the stop loss can be significant. 2% loss 10 times in a row is 20% loss.
And the market can be very irrational sometimes, your algorithm have to consider almost all possible scenarios, not just “normal” or “average” day market. Have you back tested your system yet? If you are doing it manually, it will be hard to backtest your algorithm.
I use a 4% stop on all day-trades. After 81 closed trades there are only 2 positions that exceed that level (I thought that the C2 Webtrader recorded my stop but obviously I failed to confirm the stop, my mistake).
In any case the drawdown per trade on those 2 losing positions was not bigger than 8.5%, although it did reduce the profits accumulated so far.
My average drawdown per trade on those 81 completed trades is 1.56% and after only seven (7) trading days (my Wise Trading system started just last week) it already returned 3.1%, all C2 fees included. (Most traders cannot consistently make an average of 2% … per MONTH)
Now I also have a few simple questions for you.
How did your system manage to lose close to 12% in a single trade, this one:
1/31/22 15:05 UPRO PROSHARES ULTRAPRO S&P 500 LONG 17,398 58.89 5/6 15:51 57.93 11.83% ($16,728)
Too much leverage, perhaps?
And more importantly, the average leverage of your system is a very low 1.43 while the maximum leverage is a mere 3.62, and yet your Patience is a Virtue system still managed to produce a 53.8% drawdown. How do you explain that?
This clearly shows that some systems with small leverage can and will produce big drawdowns, they just do it slowly.
But granted, systems with small leverage are usually safer. The keyword here is usually, because some of them can create big losses over time (death by a thousand cuts).
I don’t claim that stops protect you from drawdowns to the extent that more leverage isn’t risky. You can get a 99% drawdown with never letting a single trade lose more than 0.01%. Stops at 4% don’t guarantee you won’t have a 15% drawdown. Leverage is risky.
I have drawdowns because I invest aggressively. High growth rates over long periods of time (5 years plus) generally don’t happen without volatility. Anyone that says otherwise is misguided or selling snake oil.
As @VixSwing said “With 10x leverage, it’s likely the stops will be frequently triggered.” Even if you a trading a market with perfect liquidity and no risk of gaps you still increase the probability that a stop get’s hit when you use more leverage.
You will be Billionaire in no time if you ever find such a system, all you have to do is trade the signals in reverse.
Driving a car is also risky, if you drive carelessly and don’t follow the driving rules.
Crossing the street is also risky, if you are not careful.
Everything is risky in life, if you don’t know what you are doing, and leverage is no different.
Leverage is only a tool, it’s up to the trader to use it wisely.
True, because we still need a mathematical edge to outperform the market in the long run.
Absolutely not, because once again the EXACT leverage to use will be determined by the hard stop and the percentage of capital the trader is willing to lose.
Trading capital = $10K
Hard stop = 8 points (S&P 500 futures is trading at 4000 for example).
Capital I am willing to lose = 4%
With these parameters the leverage I should use is 10X, meaning I can buy 5 micro S&P 500 contracts and that’s it (market value = $100 000)
If I buy more (like 10 micro contracts) then my loss will be 8% if my stop is hit, which is not what I want.
The very first thing you suggest (the opposite of a losing trade is a winning trade) is wrong. Costs, slippage, borrowing costs, etc. After that I didn’t read the rest. Keep lecturing if you like. But I really just want to see you create that system that can generate positive returns for 5 plus years while using 20X leverage. Can’t wait to subscribe.
Investing aggressively, from a purely trading point of view, means you are taking more risk, but according to your C2 track record your maximum leverage is remarkably low (3.62) so what do you mean by that?