There's a good discussion about trader capitalization needs over on Dr. Brett's TraderFeed blog. (The discussion now spans these three posts: Capitalization and the Economics of Trading Success, The Capitalization of Traders: Why It Is Crucial to Success, and The Psychology of Leverage ) That topic is probably the one I get the most email about. It's one of those classic questions that deserves an "it depends" answer. At the very least you need to know how much the person needs to live off of and their system's expectancy. The type of trading and whether the trader holds positions overnight will probably also come into play.
As a general rule I used to tell people that they'd need an absolute minimum of $50,000 but $100,000 is probably more realistic. But years ago, after reading Dr. Brett's thoughts on the matter (which he's based on working with so many traders) I modified my response to add that "Dr. Brett recommends over $200K". You'll see comments by Michelle B (remember her?) on Dr. Brett's posts. Her comments match my thoughts on the matter almost exactly for a very specific situation -- a true daytrader, who doesn't take overnight risk and is willing to max out on 4x leverage. (If you're trading with a prop firm you may get 10x leverage, so the numbers could be adjusted accordingly.) If you're holding overnight you just can't be as aggressive with leverage and thus your capital requirements will need to increase.
Obviously people will have to analyze their own situations and come up with a number for themselves. Dr. Brett provided some links to some Monte Carlo simulation tools which are invaluable for doing that kind of analysis. As with so many things, one's own mileage will vary. One's risk of ruin should decrease with more capital and it will also be easier to make the amount of money necessary to make a living.
Alexander Elder once remarked (in a book? email?) that he did not begin to make serious money trading until he had $500k capital. I would classify his style as swing trading, i.e. hold overnight.
IMHO the key to this conversation is what size your account should be once you have become a consistently successful trader, have a clear sense of your expectancy, and have earned the keys to a larger trading account.
Otherwise its a very different question i.e. how much tuition do I need.
As Michelle B say's, once you are a consistent trader and are clear about the size you want to trade (i.e. how much leverage you need), its leverage that becomes the main factor in determining account size. Why keep unused money sitting in your trading account when it could be earning an income elsewhere?
In my experience it is a mistake for a new or learning trader to start out with too large an account. Firstly they don't need it, since they should be trading the smallest possible size, and secondly it leads to complacency. Its better for a trader to grow his or her account through trading.
In that way you are trading with money that you have earned trading. Your size becomes tied into the confidence that you have developed earning the money. And in a way it becomes a measure for when you are ready to go from being a part time amateur to a full time professional. You have traded your account to a size where with a conservative risk percentage you can earn enough to take out an income and either continue to grow your account or take out money to invest in other ways.
Mo
Wow I found real traders here. I am trying to grow my account with initial capital of 30,000 with about 2.5 time leverage. So I guess it should be enough. But may i ask how much return per month on that kind of capital you are talking about here?
Hi, Michael. Excellent post. I particularly appreciated your emphasizing what a daytrader really is. It is infuriating to witness the butchering of that epithet on stock boards as on Yahoo. It seems that many think daytrading is whatever they decide it is.
If your daytrading account is at an American brokerage, it means a very specific case (except for a few where you do not need the $25,000). It never ceases to amaze me to read comments at chat boards by posters who do not know why their daytrading account has reverted back to cash! It seems like a big mystery to them (it has dipped under the required $25,000 in order to maintain daytrading status).
Or after making more than 3 daytrades within a five day period, they can't trade until the proceeds from the trade clear the 3 day period because their account is now cash (they did not even know that there is a $25,000 requirement for daytrading!)
Anyway, Brett S is a dear heart and it felt very odd challenging him! And I certainly do not disagree with him on the whole. He is an magnificent clear-headed thinker and all around nice guy. Our on-line trading community would be adrift without him.
Mo has expressed what I was trying to explain. The handle is tuition/room and board, not size of cash capital. If you are starting out and you have more than $30,000 in your day trading account it makes no sense per Brett's insistence on not trading big!
As for as Brett receiving feedback from brokers who state that small accounts blow up, all I can see is a combination of two fallacies: confirmation bias and mistaking correlation with causation. The cause of small accounts blowing up may very well have little to do with the actual size of trading cash capital but with other much more important factors like these account holders have no idea what they are doing in terms of day trading.
There is nothing more arrogant than ignorance pretending it is confidence and knowledge. I have encountered so many deluded wannabe day traders that don't even know why their account switched automatically to a cash one (because their account was under $25,000 and they exceeded more than the allowed 3 day trades conducted within a 5 working day period). This type of character tend to have small trading cash capital, but it is not the small cash capital that is to blame for their disastrous results, it is their arrogant ignorance.
These chaps also do not know that day trading means though you are leveraged, you can't hold your day trading leveraged buying power overnight or you are penalized (yup, that old scary demon, the useless cash account where you need to wait 3 whole whopping days before you can use the proceeds from your latest trade). Day trading does not mean you are not a buy and holder/investor, it signifies no holding overnight or longer. You can be a frequent trader and not be a day trader.
If they are ignorant enough not even to know what a day trading account entails, do you think they will know anything about expectancy? The small trading cash capital for leveraged day traders is getting the bum rap here.
Mo, that makes a lot of sense. Thanks for the comment.
Michelle, thanks for the extra clarification about the specific situation I listed. I sometimes forget that people who have non-U.S. based accounts may read this as well.
it should only depend on how much money you need for a living and how efficient this market is, ie minimal position size, transaction cost, you can scale the whole size by linear transformation, therefore the whole discussion is blotted and in the end obsolete
I'll have to admit that Steenbarger's posts were humbling and a bit discouraging.
I am on his side when it comes to warning potential traders that trading is difficult. It isn't a means for getting rich quick. Anyone who is selling "system" that beats the market year after year should be avoided.
However there are plenty of examples out there of people who are successfully trading for a living without Steenbarger's minimum requirement of a quarter of million bucks.
It depends greatly on how you trade, what you trade, and how you manage risk (the key). There are plenty of traders out there using "simplistic" trading rules and strict money management guidelines that are averaging 1% of their account value per trading day. Look at TraderAM, TraderX, and How I Day Trade, for examples.
Steenbarger's point is well-taken. This stuff isn't easy. It takes discipline, education, perseverance in addition to an account that will support the inevitable drawdowns to make this work.
We should all thank people like Mike for FREELY providing the education and technical know how that helps many of us "beat the odds" and successfully make a living from what we love to do.
Hi Michelle B
Are you responding to my post? I still don't get your point.
Mo, I thought your comment was on target--an experienced trader can make do with a small capital base because of being able to use leverage properly and a beginning trader does best with a small capital base because she keeps her risk small and even more importantly, is not complacent that a bigger account will cover the problem of having no edge. Having no edge is the real problem for beginners, not a small trading capital base.
The rest of my comment was focusing on some aspects of Brett's posts and presenting a different perspective than his.