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Trading Strategies for Small Accounts

Updated: Sep 22, 2019

Automated Breakout Strategies for Small Accounts

People often ask me if breakout strategies can be used for small accounts. And the simple answer is, yes, they can. Today, let's have a closer look at this topic and how it can be done.

First of all, it is important to explain one crucial context. If you would like to create breakout strategies for small accounts, you need to work with a low risk. But everything costs something. A low risk will practically always lead to some compromise - mostly you will make less and the stability of your equity will be lower. But, you will experience longer periods when your account will go mostly sideways. Unfortunately, in trading there aren't black and white solutions, and each advantage is redeemed by certain disadvantage. Once you decide to build strategies for small accounts, you have got to ask yourself: What is more important to you? Is it a small risk per trade or a drawdown that is the smallest it can possibly be? (And don't say both, as these are contradictory. Why? I will explain that in examples.)

Drawdown vs. risk per trade

There is a general rule in breakout strategies - the bigger stop-loss, the smaller the drawdowns. Maybe it sounds inconsistent, but the logic behind is pretty clear: Breakout strategies have a tendency to go through substantial corrections throughout a day and a bigger stop-loss will cope with this much better. You risk less with small stop-loss, but you will be out with loss more often. A bigger stop-loss will help you to stay in during corrections. So, even though each loss will be a bit more painful, the overall drawdown can be smaller and the profit and success rate much higher.

Let's have a look at one of my simple breakout systems which can be used to trade on numerous markets even with a small stop-loss.

In this system, the smallest acceptable stop-loss value is 100 USD (market EMD, 30-minute timeframe). It is possible to use the same stop-loss in ES or TF markets with similar results. Such stop-loss is indeed very low for automated trading strategy - quite often even smaller than in similar markets during discretionary trading. With a stop-loss like this, it is possible to trade a small account and losing trades won't be considerably unbearable.

How would equity and maximum drawdown look like with this scenario? The system is generating stable profits, but equity has its weak periods. The average profit is 3000 USD per annum and overall drawdown is 2380 USD. It means it is possible to trade with a very small stop loss. However the question is: Wouldn't it be worth to increase the risk a bit? I understand that for someone with a small account a stop-loss higher than 100 USD could be unacceptable, but let's see if we wouldn't actually gain more than if we used a very small 100 USD stop-loss.

And now the same system with a stop-loss of 300 USD. It sounds like a big jump to increase stop-loss to 300% of the original amount, but let's have a look at what we have gained. The average profit per annum increased to approx. 4200 USD (a 40% improvement), the stability of equity is considerably better, and drawdown decreased to 1930 USD (almost a 20% improvement).

So, the first rule when searching for ATS breakout strategies is: Even if you are working with a small account, search for a strategy with a slightly bigger stop-loss than you would normally use in discretionary trading, or a bit bigger than you would feel is acceptable.

In this case you have to perceive stop-loss only as a necessary protection. Even though individual losses will be more painful to some extent, your results will improve and profit distribution will be more stable.

How to capitalize

Once we have a system with relatively small risk (300 USD is still a very small stop-loss; I personally also work with stop-losses of 2000 USD per contract) and a small drawdown (drawdowns of under 2000 USD for an automated breakout strategy can be regarded as small), for such strategy we can capitalize with a relatively small account. The technique is simple:

1) Conduct a Monte Carlo analysis of the system to find out the worst probable drawdown in the future. This drawdown will be mostly 25% higher than your original equity - i.e. in the above system we would have to anticipate a drawdown of 2400 USD instead of 1930 USD.

2) Think of what your maximum accepted drawdown is in percentage and capitalize in accordance to the Monte Carlo drawdown that needs to correspond with this percentage. If you decide that you are able to accept a 50% drawdown on your account, then your capitalization will look like this: 2 x 2400 USD = 4800 USD. If you decide you can accept a maximum drawdown of one third of your account, then your capitalization will look like this: 3 x 2400 USD = 7200 USD.

With a bit of patience and research you can come up with strategies that will be possible to trade under certain circumstances with very small accounts - i.e. 5000-10000 USD.

Once you have a few strategies like this, it is possible to work with small portfolios (2-3 systems). In such case you need to conduct a Monte Carlo analysis on your portfolio as a whole (program MSA is great for that) and capitalize in accordance to the Monte Carlo drawdown of the portfolio.

How to search for strategies for small accounts

So, once more... The good news is that to find a good, quality breakout strategy for small accounts is possible. The bad news is that it will take much more patience and you will always have to compromise slightly.

You have to ask yourself what is the amount you are willing to accept (such amount needs to be reasonable, e.g. 100 USD is a bit extreme, but 300-500 USD seems reasonable) and during the development of the breakout strategy, you will have to implement this as a fixed amount from the very beginning of the whole process, i.e. in search and development of the breakout strategy.

Generally speaking, breakout strategies with small stop-loss are better to find on markets like YM and ES, especially on 15 minutes and 30 minutes timeframes. However, it takes much more patience - to find a strategy for small-stop loss is considerably more difficult (but not impossible). From my experience, sometimes it is worth it to take a tested and proven strategy and to try it on other markets with different stop-loss values. This way I have found, for instance, low values of stop-loss for the BOSS system (but for timeframes higher than 15 minutes). Generally, only one in approximately six of my breakout strategies is usable with small stop-loss. This only confirms the difficulty to search for this kind of strategy - but with an account of around 8000 - 10000 USD, I can imagine to have a portfolio with three such strategies and have a decent base for further growth.

Happy Trading!

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