The Amazing Power of Compounding and Using it to Your Advantage as a Forex Trader
In this video:
00:47 Huge effect to the overall performance
02:20 The potential of compounding
05:39 2.1% return gain just from just 5-minutes work
How to Use the Power of Compounding to Your Advantage
In today’s video and podcast I want to share some really exciting information with you regarding the power of compounding and how it can really help you with your Forex trading results. So let’s get into that right now.
Hi traders it’s Andrew Mitchem here, the owner of The Forex Trading Coach. Today is Friday, the 22nd of August and I want to talk about compounding.
I’ve had an email come through from Don and he said “Andrew, can you just talk about compounding and how I can use that to my advantage as a Forex trader.” It’s something that I also shared on a live webinar with my clients just last night.
When you start talking about the power of compounding it just makes you realize just how, (if you’re using in the right way) how it can make such a huge effect to the overall performance that you achieve as a Forex trader. So I’ve just run through a few different scenarios on a trading calculator that I have.
I’ve assumed that you’re taking 25 trades per month. So all the figures that I’m about to quote assume 25 trades per month so just over 1 per day of the trading day and also using 0.5% gain per trade.
So if you had a 50% win rate in your trading strategy, so it means obviously that you’re actually losing half the trades that you take and of course winning half the trades that you take. If you had that 50% win rate with the 2 to 1 return on each trade. So for example if you were risking 50 pips to make a 100 pips or risking 25 pips to make 50 pips whatever it might be you were turning twice the amount that you are risking. So if you had a 50% win rate with the 2 to 1 reward to risk ratio, that’s going to give you (assuming that you do that consistently) that’s going to give you around a 6.3% monthly return, compound that and assume that you’re doing that evenly throughout the whole each month of the year. That’s going to give you just over a 100% return on your account which is pretty spectacular.
Now there’s a lot of assumptions in these figures as assuming that everything is even and everything are consistent which of course in reality is not. But just to give you an idea of the potential that can be achieved using the power of compounding.
As you have profitable trades your account grows with compounding. The great thing about it is you’re actually compounding on your gains.
The thing in reality that I also liked about it is that if you have losing trades and losing weeks and loosing months even because you’re using a set percentage of your account, you’re actually losing less as your account goes down but if you’re a good trader and you make more money, with compounding you can then grow that substantially greater of course.
So using those figures 50% win rate, 2 to 1 reward to risk on each trade (and a 0.5% account risk per trade) gives you a 6.3% per month. Take that out to a year around about a 100% gain.
If all of a sudden you had a 40% win rate. So you’re losing 6 out of 10 trades but the same return per trade. That’s now giving you a 2.5% monthly return; compounded out, that gives you about a 34% annual return – still exceptionally good.
But if you stick at your 40% win rate so only winning 4 out of 10 trades but all of a sudden instead of a 2 to 1 return you’re now at a 2.5 return per trade (and a 0.5% risk per trade) that suddenly gives you a 5% monthly return and about 80% annual return. So you can see the difference there.
You’re still losing 6 out of 10 trades. It’s something a lot of people come to me and they say, “Andrew, what’s your win rate, can I get 80-90% win rate?” Well, you can but it doesn’t really matter as much as a lot of other factors. So by losing 6 out of 10 trades but with a 2.5 reward to risk ratio out of all those trades you’re still making upwards of 80% per year assuming those smooth returns and doing that all the time.
If you took it the other way and you had a 70% win rate. So 7 out 10 trades are winning but you only had a 1 to 1 return or 1 to 1 reward to risk ratio you then achieve around about the same figures so it depends whether you want to achieve a very, very high win rate on your trades with a low return per trade or a lower win rate but a higher return per trade so it just depends on what type of system, what type of strategy you have. But it just shows that with compounding, with winning trades and compounding how you could really a substantially increase the size of your account over time.
As I mentioned I’ve talked about that with my clients yesterday. On that same webinar I mentioned four trades on the 4-hour charts. One of them did not get filled at a limit order but the other three did and those three trades I’ve taken live in front of my clients. Made 2.1% return on my own account and the great thing is I put them on a 9 o’clock in the evening my time which is with the 4-hour charts, change over, I went to bed, finish the webinar, I went to be and woke up this morning and there’s a 2.1% return gain on my account just from a 5 minutes of work. So it just shows what again can be achieved from those longer time frame charts. You don’t need to sit watching the charts all day and night.
And also, another really pleasing aspect from the information I received from my clients on that webinar just amount of people that are just having an exceptional returns and exceptional returns over a variety of different time frame charts. I have people that are taking trades on 5-minute charts right through to 15-minute, 30-minute, 1-hour right through to weekly and even monthly chart person or someone suggested or told me they had a trade on a monthly chart that hit profit. So it’s right across the spectrum. It’s across a variety of currency pairs and a variety of time frames.
Now that really in my opinion shows the sign of a good sound strategy. The problem is with so many strategies that you see marketed online is that they’ll only work on the 1-hour charts or only on the 5-minute charts or only on the Euro/Yen; whatever it might be.
A good strategy that uses price action and support and resistance, etc., will work on any market, any time frame, any pair – it just depends on what suit you.
So that’s it for this week. Remember to use the power of compounding to your advantage. Take care. Have a very successful week next week and I look forward to talking to you this time next week.
Bye for now.