How Much Capital Should you have to Start Day Trading?
Yesterday, I wrote about why 90% of all day traders fail. Today, I hope to look at how much starting capital you should have before realistically hoping to make a living, simply from your trading.
Know Your Monthly Expenses
The first thing you need to look at, are your expenses. Everyone’s living standards are different so you’ll have to do your homework here and write down every single expense that you incur on a monthly basis. It’s best to take an average over 3-6 months, but if you don’t have that luxury, then guesstimate the best you can. Don’t forget to include expenses like car and home insurance, property tax (if you own property), and other fixed costs that only come around once or twice a year.
How Much You Need to Earn
Let’s say you come out with the figure of $3,000. That’s a reasonable figure. I think most of us can living somewhat comfortably with $3,000 unless you live in the top 10 most expensive cities in the world. $3,000 is roughly $36,000 a year and while you won’t have to pay 50% in taxes, you’ll most likely have to pay a significant portion of your trading income in taxes. Say your average tax rate is 35%. That means you’ll need to earn roughly $55,386 before taxes or $4615.50 every month.
The Power of Leverage
Leverage is borrowing other people’s money (OPM) to magnify returns. It can also magnify your losses. You could be trading on margin for stocks and options or you could be trading at a 100 times leverage in a Forex (currency trading). I like trading on margin but that’s because I have a sound money management system in place. I know exactly how much I risk on every trade and don’t want to blow up my account. If you’re going to trade with leverage, you should do the same. If you don’t, you’ll be playing with fire that will burn a huge whole in your finances. I wouldn’t recommend trading with anything over 20 times leverage unless you know what you’re doing.
Determining a Realistic Annual Return
I honestly think a 10% return on an annual basis consistently is achievable. Having said that, a ton of mutual fund and hedge fund managers fail to reach that level. Many will lose money over a 10-year period. Sure there are hedge fund managers that double or triple their money, but that doesn’t happen every year, and there’s a chance they might give it all back the next year.
When you’re determining how much you need to make, you should set a realistic goal as a percentage because dollar figures mean very little. You only need a 0.55% return annually if you have a starting capital of $10,000,000. On the other hand, you’d need a 55% return if you had $100,000. That’s a pretty steep return.
And you have to remember, if you plan on living strictly off of your trading returns, your account will not grow as you withdraw funds. So if you plan to increase your monetary returns over time, you have to leave some of your trading income on the table and increase your trading capital to make that happen.
So How Much Starting Capital do you need?
Even if we were to say you could earn 20% on an annual basis, then you’d need $276,930 in starting capital before you could earn the $55,386 you’d need annually. That’s quite a number isn’t it? That also means you won’t have any growth in your trading account because you’ll be withdrawing every penny of your gains.
But Let’s Be Realistic Here…
What if you had a losing month? What if you had 6 losing months? There’s no way you’re going to be winning every single month. If you can, you’re a genius and you’re wasting time reading this. You should be trading your brains out because every trade you make has an overwhelming chance to be a big winner. Just keep trading and you’ll be a billionaire eventually!
For the rest of us, you have to factor in that you are going to have losing periods no matter how disciplined and how seasoned a trader you become. We’re human, we make mistakes and that’s a fact of life. So if you ask me, if you really need to make $55,386 every year, you should have more than half a million in trading funds. If you don’t have that, then don’t quit your day job and prove to yourself with whatever funds you can set aside, that you can make consistent returns.
If you could make 10% annually, trading part time, you have a great chance of doing better once you make the switch over to being full time. Just make sure you treat your $10,000 account the same as you would your $1,000,000 account. The instant you start trading differently, you’re going to lose money. Just because it’s a small account doesn’t mean you’re allowed to blow it up, take it seriously. When you start trading, it shouldn’t be for money, it should be to learn the skills that you need to become a successful trader and you’re going to have to pay tuition for that. The market will be more than happy to have you pay tuition forever, you just need to make sure you don’t cost yourself too much.
Money photo by aresauburn on Flickr.
