Compound interest; the magic of trading

To make the most out of trading you need to understand the concept of compound interest. Compound interest, or compounding profits, is the practice of adding up small amounts of profit to achieve large profits in the long run. For example, as a daytrader, you could aim at a profit of 0,5% per day for your trading account. Now your brain may tell you this isn’t ‘enough’, but when you keep the profits allocated to your trading account it adds up quickly. Here is a table showing you how a trading account of € 1.000,- can grow using compound interest:

Effects of compound interest in the first year, split per 10 days. Also shows the effects of compound interest in 5 years.

With an average profit of 0,5% per day, you can increase your trading account of € 1.000,- to more then € 6.000,-. Best of all? It’s not magic, it’s basic math. A basic advice that’s been given to new traders is ‘only trade with what you can afford to lose’. These words of advice have multiple explanations and in my opinion this is one of them. If your trading account is free from being used to pay the bills, it has the chance to grow using compound interest. Compound interest is the reason that as a trader you should be eyeing the long run, work for the marathon instead of the sprint and keep stacking those profits!

Do note that this calculation takes into account that you only use the full € 1.000,- for one trade at a time and that you go all-in with the trading account. This is a big no-go for your risk management, but I’m convinced that if you start with a small trading account that’s 100% money you can afford to lose, this is actually a better way to learn how to trade then to start splitting your trading account from the start. Once your trading account grows, the need for risk management grows with it, and you need a different strategy to not let your trading account dwindle away.

Afbeeldingsresultaat voor compound interest quote
No one seems to be sure if he really said this, but it’s a cool quote nevertheless!

Keep the concept of compounding your profits in your mind every single day if you have chosen to walk the path of the trader. It is the very essence of why trading works, and you need to keep reminding yourself that you are working with this very concept.

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