The Most Important Weapon for Big Growth

Aug. 10, 2022

As you may know, Warren Buffett (at age 91) has a net worth of about $100 billion.

Fun Fact: If Buffett invested like a normal person, taking the exact same trades he took in real life but only trading from 25 years old until he “retired” at 65, his vaunted portfolio would be worth only $12 million.

In other words, Buffett’s trading is good, above average. But it didn’t make him a billionaire.

What made him billionaire was the compounding that occurred by trading for such a long time.

Think about it: 99% of Buffett’s wealth came after the age of 65.

It’s not his trading system; it’s his compounding.

That’s the big takeaway from any study of Warren Buffett’s greatness: Compounding is the #1 weapon. And if we want to have extraordinary success, we need to compound our gains.

For as long a time period as possible.

How can we do it?

One way is simply to buy-and-hold a stock that you hope goes up over time. If a cross-your-fingers stock goes up exponentially, you get life-changing money. If it goes sideways, you get bupkis. If it goes down, you get bankruptcy.

Some people are fine with that roll-of-the-dice. But if you prefer something that has a much higher probability of success, much higher returns overall, and much less drawdown, then you might want to use a trading system.

If that’s the path you like, then how do we use the secret weapon of compounding?

We change our trade size with each trade.

Unfortunately, I get emails all the time from sad people who’ve tried compounding with a very popular method: Martingale. What’s Martingale? It’s compounding–but only when you lose.

If you lose a bet, you double down. Then, when you win the second bet, you book the profit and go back to your original bet size.

The good news is that Martingale works a lot of the time. You can use this in Vegas and beat the table on a given night. The bad news is that a long losing streak takes all your money (and sometimes a lot more if you’re on margin). Every time you use Martingale compounding, oblivion is always around the corner.

Not the best way to make money. Oblivion doesn’t pay the mortgage. (I did a video on Martingale betting, and doing it safely, several years ago if you’re interested: https://www.youtube.com/watch?v=fIcmRxAawwg&t=697s)

A better way to use this secret weapon is to change the trade size as the account changes.

But there are several ways to do this, and they all have pros and cons.

The simplest one is to raise the trade size the same percentage as the amount of the trade win. For example, if a trade makes 10%, then raise the size on the next trade 10%. This absolutely works and is absolutely scary as heck.

Why? It’s scary because you’ll always be at your highest possible trade size when the losing streak hits. There’s no getting around it. When your Equity Peak is at an all-time high, you’ll begin to lose, which creates a massive drawdown. Granted, this big drawdown will be happening after you’ve made a bunch of profit, but it’s a drawdown nonetheless.

Here’s an example of what this looks like. In this example, we’ll use the Dragonfly Small Stop robot. You can see monthly updates on this robot on my website’s Performance Page.

Using the “GBPJPY ETF” on a hypothetical $10k account, trading the Dragonfly Small Stop, and compounding immediately after every loss or gain (a robot can do that for you or you can do it manually each trade), here are the results from January 2008-August 2022:

As you can see, compounding is amazing. Our hypothetical $10k account has turned into over $1 million.

But what else do we see? A gigantic drawdown of $619,000. Yes, we were in profit when it happened but holy macaroni.

Are we really ready for that?

Buffett is.

And that’s why he has $100 billion.

However, immediate compounding is not the only way. There are others.

And we’ll discuss those in the upcoming Newsletters.

Talk to you soon.

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Disclaimer:
It should not be assumed that the methods, techniques, or indicators presented in these products will be profitable or that they will not result in losses. Past results are not necessarily indicative of future results. Examples presented on these sites are for educational purposes only. These set-ups are not solicitations of any order to buy or sell. The authors, the publisher, and all affiliates assume no responsibility for your trading results. There is a high degree of risk in trading.

HYPOTHETICAL OR SIMULATED PERFORMANCE RESULTS HAVE CERTAIN INHERENT LIMITATIONS. UNLIKE AN ACTUAL PERFORMANCE RECORD, SIMULATED RESULTS DO NOT REPRESENT ACTUAL TRADING. ALSO, SINCE THE TRADES HAVE NOT ACTUALLY BEEN EXECUTED, THE RESULTS MAY HAVE UNDER- OR OVER-COMPENSATED FOR THE IMPACT, IF ANY, OF CERTAIN MARKET FACTORS, SUCH AS LACK OF LIQUIDITY. SIMULATED TRADING PROGRAMS IN GENERAL ARE ALSO SUBJECT TO THE FACT THAT THEY ARE DESIGNED WITH THE BENEFIT OF HINDSIGHT. NO REPRESENTATION IS BEING MADE THAT ANY ACCOUNT WILL OR IS LIKELY TO ACHIEVE PROFITS OR LOSSES SIMILAR TO THOSE SHOWN.