What is an Appropriate Account Size?
Recommending an appropriate account size is problematic for a number of reasons.
Firstly, the question falls into “personal” advice which I’m not licensed to give.
And secondly, not every trader is the same in regards to their;
- Risk appetite (drawdown),
- Financial position,
- Investment objectives,
- Preferred markets they trade,
- Preferred securities they trade (Futures vs CFDs vs Forex vs Shares vs Options etc) and the
- Margin requirement for their preferred markets and securities.
All these factors will impact the size of an individual’s trading account.
So for me to suggest an appropriate account size is difficult as one size, or suggestion, does not fit all.
However as a general guide line there are a number of common approaches traders usually follow when giving consideration to determining an appropriate account size;
- Capital Allocation
- Capital Preservation and
- Capital Funding
Let me explain each in turn, and as I do, I’ll assume we’re discussing futures trading.
Capital Allocation
This is the simplest approach where traders can allocate a certain amount of capital per market.
The amount will need to be sensitive to the margin requirement of the markets they choose to trade as well as the likely drawdown per market.
At time of writing the average margin requirements per market are;
- Indices -$15,000
- Currencies -$8,500
- Diversified -$5,000
[Note: Margin requirements change with market volatility, so be sure to always consult with your broker].
In my experience an allocation of between $10,000 to $15,000 per market traded is usually a reasonable amount to allocate.
As an example, if a trader decided to allocate $10,000 per market and trades a 3 market portfolio, they could consider trading with a $30,000 (3 x $10,000) account.
Capital Preservation
This approach is used by traders who wish to limit their worst accumulative loss, or drawdown, to a percentage of their risk capital.
Once a combination of strategies and markets are determine traders will then use the worst historical drawdown to determine an appropriate account size.
Take for example a strategy/market combination which produced a worst historical drawdown of say -$35,000. Depending on a trader’s individual appetite for risk they may determine an appropriate account size to be either;
- $175,000 – If a trader prefers to limit their worst drawdown to only 20% ($35,000/20%), or
- $117,000 – If a trader feels comfortable suffering a 30% drawdown ($35,000/30%).
Capital Funding Approach
An alternative approach is to calculate the capital required to participate in trading.
This includes two components, the expected drawdown and margin funding.
There are two approaches traders can follow, one conservative and one aggressive;
- Conservative: Maximum Capital Funding and
- Aggressive: Minimum Capital Funding
Maximum funding takes into account drawdown and the total margin requirement for the entire portfolio.
For example let’s assume a new trader decides to purchase Key Breakout and trade it with the short-term trade plan on the P8 portfolio containing the Euro Currency, Sugar #11, Corn, 10 Yr T.NOTE, Live Cattle, Crude Oil, Gold & E-Mini SP500.
On this portfolio Key Breakout has historically recorded a drawdown of -$29,000.
At time of writing the total margin requirement for this P8 portfolio is $40,300.
Maximum funding would suggest an account size of $69,300 ($29,000 + $40,300).
Minimum funding takes into account drawdown and only makes allowance for the expected maximum open positions.
Although a strategy may trade a portfolio of 8 markets its historical performance may show that only 4 positions were ever open at anyone time.
In our Key Breakout (with the short-term trade plan) example, since 1980 the maximum open positions have been 5.
For the P8 portfolio the average margin at time of writing is $5,040.
Minimum funding would suggest an account size of $54,200 ($29,000 + (5 x $5,040)).