In this post, I will describe “the rule of safe”, applied to the cryptocurrency market, as well as one of its modifications, based on my personal experience.
Dear friends,
There won’t be so many charts in this post as you usually find in my articles. However, the information, you will learn there, will help you to save your money.
Today, we are going to study money management, in particular, one of the most popular strategies of money management: “the rule of safe”
This rule became well-known due to Pavel Dmitrev’s “Sniper” trading strategy, where the rule of safe is an essential element of Forex trading.
The rule is quite simple:
enter a trade at the point, identified by your trading strategy, with a double volume. Besides, the total cost of risk is not to exceed the set percentage of the deposit. In classic risk management it is 1% of the deposit;
find out stop-loss level (SL), based on your trading strategy;
set the first take-profit between the entry point and SL. So, take-profit size is a half of the total trade volume.
When TP1 works out, you will break even for this position, because, even if the price reverses and the position is closed by stop-loss, the losses will be covered by the profits, gained with TP1 before. To illustrate it, let’s take a simple strategy, based on the price rebound from the resistance zone.
In the chart above we see, the ticker didn’t manage to break out the resistance zone and went downwards, forming the long black candlestick, bearish engulfing pattern
When the next candle is opening, we already open short positions, putting a stop above the resistance zone, according to our trading strategy
To short, we sell BTC at the level of 11 300 USD.
SL is 11 800 USD.
Provided that our risk-management is 1% of the deposit, and our portfolio is 50 000 USD
Order-size of 1 BTC will suit our risk-management, as in this case, out risk will be 500 USD.
(11 800 – 11 300)
According to the rule of safe, we put TP1 at the level of: the entry point + the risk amount=11 300 - 500 USD.
Therefore, TP1 is at 10 800.
Unfortunately, such a good situation doesn’t always occur.
If we look at the current situation, it is similar to that in the chart above
After the price has rebounded from the resistance zone, we wait until a strong reversal pattern forms and then enter a trade.
Finally, the entry point is at the level of 8 600 USD and SL is at 9 200.
As with same deposit, the maximum risk amount is 500 USD (1% of 50 000 USD deposit), we can open a sell position for 0.83 BTC. So, to break even, we should place TP1 at the level of 8 000 USD, having sold 50% of our position (0.415 BTC)
However, in the context of high volatility and uncertainty, present in the current market, the level of 8 000 USD to break even seems unreasonable.
I adjusted the rule of safe to the high-risk cryptocurrency market. To calculate TP1 level, I suggest using a more flexible value, Average True Range, instead of the fixed one between SL and the entry point.
Average True Range defines the average price range for a certain period. I usually apply 14-bar moving average.
I have noticed that if a position is opened according to the signal, almost in 90% of cases, the market reaches the value, equal to the entry level + ATR*76.4%
If we study our case, in 4-hour chart, ATR was at the level of 266.50 when the position was opened.
Therefore, TP1 = 8 600 – 266.50*76.4% = 8396.39 USD.
As it is clear in the chart above, the ticker touched this level and allowed fixing the profit.
To ensure that the rule of safe will work, the order-size at TP1 level can’t be a half of the total amount.
To calculate it, we need to solve a problem with two equations.
X + Y = 0.83
(8600 – 8396.39)X = (9200 - 8600)Y,
Therefore, X = 2.94*Y
- we put the result into the first equation and get:
2.94*Y+Y =0.83,
Therefore, Y = 0.83/3.94 = 0.21
The answer:
X = 0.62
Y = 0.21
It follows from this equation, if we sell 0.62 BTC at the level of 8 396.39 USD, we will break even if the price reverses and the position is closed by stop-loss.
On the other hand, the position for 0.21 BTC will be still opened, and we can safely target this amount and follow the ticker’s moves without any anxiety, as we are sure that we won’t lose anything.
As you see, this approach is more flexible and can be adjusted to a certain market instrument and the market situation, it perfectly fits in any trading strategy.
The only drawback of this approach is the fixing of more than 50% of the position at TP1 level, so, if the situation develops to our advantage, we strongly limit our profits. Beginners, always targeting the highest profits, may especially dislike it.
The well-known folk wisdom “better safe than sorry” perfectly applies to trading as well.
I wish you good luck and good profits!
I wish you good luck and good profits!
Regards,
Mikhail Hyipov
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The original of my article is available at liteforex.com
Disclaimer: No information presented in this article is a guarantee of obtaining a certain return on investment as well as a guarantee of stability in the amount of possible costs associated with such investments. Materials should not be considered as informing about possible benefits. A certain profitability in the past is not a guarantee of profitability in the future. The responsibility for making an investment decision as well as the risks of losses each takes on itself.