Ask Colin

Should I allow for slippage in my money management?

Yes you should - one way or the other.

Dr Alexander Elder advocates a maximum risk of 2% of trading capital on any one trade. Having heard your question asked several times at his trading camps, I know that he advocates that you allow for both brokerage and slippage in the 2%. This is very important. The more trades you do, the more slippage and brokerage are a handicap to you achieving good results.

Brokerage is easy - it tends to be the same all the time as a percentage of the trade, or as a dollar amount, depending on how your broker works and the type of broker you use.

Slippage is not so easy, because it will vary from trade to trade. In a big liquid market, slippage may be relatively small in normal conditions. However, if the market is moving quickly, slippage will tend to be greater than usual. Many traders try to avoid entering fast markets for this reason. You may have less freedom to choose when to exit, so always allow for worse slippage than you hope for.

If the market is thinly traded and illiquid, slippage can be much greater and you should make a larger allowance for it.

Although Dr Elder and others allow for slippage and brokerage in their risk percentage, I do not. However, I use much smaller percentages of capital in my position size calculations. My absolute maximum is 1%. I prefer to be closer to 0.5%. However, in doing that, I often find that, if I have risked 1% to my stop, by the time I get out and pay the broker, slippage and brokerage have taken my loss to closer to 2%. So, really there is not that much difference in the end and my calculations are simpler.