Goal-Based Trading - The Rule of 72
I want to take you back to first year accounting, but I promise you, just for a moment.
If you have followed me for any length of time, you know that I feel that one MUST have goals before he/she can expect to achieve any level of success through day or position trading. Furthermore, these goals MUST be realistic and achievable, otherwise, they are worthless.
Many have asked me how to set these goals, and what to use as a guide. To this I want to ask you one question, to which you must be honest and realistic.
How often would you like to double your trading or investment account? Remember to be conservative and realistic.
Now take your answer and turn that into the number of months that it equates to. For example, if you answered by saying that doubling your account every 1 1/2 years would make you happy, then this equates to 18 months. 1 year equates to 12 months, of course. If you doubt the latter figure, perhaps trading may not be the best choice for you at this time.
Once you have the number of months, I want you to divide that number into 72. For ease of explanation, lets take Joe Trader who wants to double his account each year, or, every 12 months. Joe takes his 12 month figure and perform the following equation:
72/12 = 6
What does this "6" represent? The percentage increase Joe would need to achieve on a monthly basis to double his account every 12 months. This is known as the rule of 72. Simply stated, the rule of 72 determines how many periods of time it would take money to double when x% is achieved in each period, or more simply, 72 divided by % yearly gain. So if Joe was nearing retirement and was investing in Bond funds with an expected return of 6% a year, how long would it take for Joe to double his money? That' right, 12 years.
Please be honest and realistic with your expectations. Set attainable goals. Doubling one's money over an 18 month time frame on a consistent basis should be considered aggressive, but for a good trader, may be very achievable.
But regardless of your goals, use the rule of 72 to determine what results to expect and adjust your dreams accordingly.