Money matters

Daniel Bernoulli, a famous mathematician. proposed a theory of utility in 1-38 that distinguished between price and value. where price is equal for everyone but value (utility) depends on the individual making the estimate and their circumstances.
Bernoulli’s approach defined a concept of diminishing marginal utility, which indicates that as wealth becomes greater, then the preference for more wealth diminishes. In the lower left part of the chart, where the investor has a Small net worth, the likelihood of accepting risk is much higher. although the magnitude of the risk is still small. When risk becomes greater, even proportional to rex., ard. all ins estors become cautious. Bernoulli’s graph shows the curve beginning at zero and mov ing up and to the right in a perfect 1/4 circle, ending horizontally, where risk is no longer attractive. This implies that people are risk-averse. Most people are not interested in an ev en chance of gaining or losing an equal amount. Other theories that have been proposed are that tile market maximizes the amount of money lost. and the market maximizes the number of losing participants. All of these concepts appear to be true and are very significant in developing an understanding of how the market functions.

A trading system alone will not assure success without proper risk control beginning with each trade and continuing until a portfolio of different trading methods is created. Systems have losing streaks that will ruin any investor with inadequate resources and poor timing; a speculator must decide the initial capitalization. the markets to trade, and when to increase or decrease leverage. There are risks that can be controlled or reduced, called systematic risk, and another called market risk, that can take the torn] of a price shock and can never be eliminated.
This series of posts tries to cover a broad range of topics relating to risk, including individual trade risk, leverage, portfolio diversification and allocation, price shocks. and catastrophic risk. It is not possible to say that one is more important than another. in a specific situation, any one of the areas discussed may be the answer to preventing substantial loss. The first part of this series of posts discusses capitalization and shows why man,.traders m-ill be successful for months and then lose everything in only a few clays. It will explain the choices in leveraging and offer alternatives of less risk. The last section analyzes when a system is performing properly and when it is not living up to its expectations.
Risk control begins with a trading philosophy the most common is called conservation of capital. it is the assurance that the investor has been given the most opportunities for success, which usually translates into keeping losses small. This is often accomplished by allowing only small losses per trade or using a trend following system. Once a trend position is established, it is held as long as prices continue in the direction of the position it is closed out when the trend changes. The resulting performance profile is one of’ more frequent small losses and fewer large profits.