Taking Calculated Risks

One of the things that I learned from Pete Steidlmayer was to take calculated risks. Not that I am risk averse – that too was something I had to learn: the times when risk taking is unjustified.

What I learnt from Pete was that to succeed I had to take calculated risks and not to just take risks. There is a world of difference between the two ideas.

Just taking risk is akin to gambling, at least in my book. We take a trade not knowing if the probabilities favour our methodology, not having any idea about managing a trade, not having any idea of the risk of ruin the position size brings or whether the position size is  worth the risk. When we take a trade in this state, we enter and hope for the best.

So what are the differences when we take a calculated risk? The differences, in two words, are knowledge and consequence.

Knowledge means that we know within the boundaries of our perception and methodology that over a large sample size, our $1.00 investment will return on average ‘$X’ (and an amount that is positive). Consequence means we have worked out the worst case scenario and have accepted those  results BEFORE we take a trade.

In my own trading, I use a spreadsheet that:

  1. Asks me to consider the Risk. The $ at risk for the position size must be within my money management
  2. Then it considers the Reward:Risk. The ratio must fall into my Normal Expectancy Ratio Range. What I did here was to tabulate the results of all my winning trades and work out the mean and standard deviation of the Ratio. That gave me my ratio’s normal range: 1.89 to 2.4.

Consequently if a potential trade falls much below 1.89 I am unlikely to take it; and if it is above 2.4, I would first re-examine the trade and if the ratio holds true, I consider increasing my position size.In this way, I take calculated risks.

6 thoughts on “Taking Calculated Risks”

  1. Ray

    Even when one is prudent factoring in Knowledge and Consequences, unconscionable interference could take us down the abyss.

    Take the case of the Ponzi scheme scam:

    Prominent broker and former NASDAQ chairman Bernard Madoff was arrested Thursday on charges of operating a Ponzi scheme. The scheme involves using money from new investors in order to pay off older investors. He is charged with one count of securities fraud and a separate civil charge by the SEC. It was alleged that some $50 billion of money from investors have been lost.

    Madoff’s Scheme

  2. hi Ana, speaking of prudent factoring, a couple years back ,i was in South America and was offered 21%.I couldnt fathom what would pay that sort of return except maybe consumer credit which i thought was too risky especially there. I also thought it strange that the police had the best houses in the street and that a every other week a low flying aircraft would fly just above rooftop level and disappear into the countryside somewhere. Well, i found out later,drug smugglers and corrupt officials. cheers Baz

  3. Yes, Baz.

    Good governance and transparency in a political system is the only way to go. I am happy to say I live in such a state, all things being equal.

    Do visit us in Singapore, perhaps at SMU next year?

    Season’s greetings


  4. Ray

    Break a leg this Monday morning.

    For our readers in India, you may want to tune in:

    MONDAY DEC 15 2008 – 1 PM HK/SIN TIME

    NDTV Profit – India will interview our mentor

    TOPIC : Asian Markets (Generic View)

    ANCHORS: Ms. Namrata Brar & Mr. Prashant Nair

  5. Hello,

    I’m big fan of your blog and as this is my first post I wish to say “Thank you Ray!” for hard work and for sharing your knowledge with all of us.

    I’ve been looking into ways to switch on/off or adjust my trading size accordingly to where in ebb/flow we are in terms of simple EMA crossover system I trade.

    I was comparing several approaches from several books/blog/Internet sources and I liked the most your approach with Exp. Ratio and Standard Deviations.

    Please let me know if it is ok if I email to your kind attention one Excel spreadsheet with few questions in regards to trading size management and Expectancy Ratio, as I’m trying to fully understand your thinking about ebb and flow states of the market and position sizing.

    Thank you, in advance, for your time and kind consideration.

    Kind regards,


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