Pyramidizing – the secret to successful trading?
The pyramidization of trading on the financial markets, which we would like to discuss in this article, can significantly increase the chances of a trader getting a stable income. This strategy can literally increase revenue from a transaction two or even three times. Pyramidization can be highly profitable, but it can also be dangerous if it is abused.
We would like to break down this strategy in this article using the example of the foreign exchange market for you, so that you can double your profit potential in trading. However, you can apply it to both the futures market and the stock market. After reading this article, you will understand the pyramiding strategy. You will also understand the underlying dynamics and the mechanics that make it so profitable. Most importantly, you learn to double or triple your income from a transaction.
In this article:
- What is pyramidization?
- How do you double or triple your winnings?
What is pyramid formation?
Before we continue to analyze the technical aspects of pyramid construction, you need to familiarize yourself with the basic principles of his work. Trading pyramids is a strategy that adds a new position to an already profitable position. In other words, these are strategic purchases or sales with the aim of complementing the existing position after the market has developed a movement in a direction that is profitable for you.
This is the main advantage of using pyramids in trade. If you have done everything right, you will not expose your trading capital to any additional risk. You reduce the risk when the market moves in a profitable direction for you. The following figure clearly shows the basic idea of pyramid construction.
The figure above shows schematically a clear upward trend in the market, characterized by rising highs and lows. Such market conditions are ideal to increase the profitable positions of the trader. In this figure, the price breaks through the resistance values again and again and then tests them as support.
This example opens buy positions (English long position – the position where the trader buys the currency at a price and wants to make a profit when closing that position at a higher price). The first purchase transaction, labelled initial buy in the upper figure, was completed at the time the market was reviewing the level of previous resistance that became the level of support after the outbreak. The second (purchase order No2) and third parties (purchase order No3) deal, similar to the first were made to buy and obliged when the market tested the new level of support (former resistance).
Remember that the reason to add a new election to your existing long position breaks through the price of the next resistance level, and then when you return to it, the price tags of consolidation have to show above this level. Therefore, the presence of a stable trend is a prerequisite for effective pyramidation. Now that you understand the basic principles of pyramid construction, let’s look at its mechanics.
How do you double or triple your winnings?
The key to the successful application of the pyramid system is to consistently adhere to an appropriate risk-of-opportunity ratio. This means that your risk should not exceed half of the potential profit. Therefore, if your winning target is 200 points, the stop loss should not exceed 100 points. Thus, the risk-return ratio is reached at the level of 1:2.
Let’s look at the following picture with the same uptrend, but this time we’ll add a Stop Loss order to Pro Purchase.
Suppose that for each button at the Retest level a trading capital of ‘20,000, with you planning to buy 40,000 units of the base currency, which corresponds to up to 4 mini-lots in the Forex market. The amount of the planned profit from each transaction during the development of the upward movement will be different, while the stop loss for each new transaction will not exceed 100 points.
Let’s analyze this example, starting with the purchase of 40,000 units of the base currency. For this purpose, we present the market, schematically shown in the figure above characterized by a strong upward trend, which is also confirmed by the older timeframe, so that the dynamics is on our side.
The prize breaks the amount of resistance, which at the next test becomes the amount of support by its price. Suppose that such a retest at the support level will create a “bulls” pin bar, so you decide to buy 40,000 units of the base currency (0.4 lots). At the time of opening the transaction, you must set a stop loss of 100 points, which is 2 of the risk of your trading capital.
You intend to continue trading as the market continues to show a strong upward trend and your first transaction has already made some profit. In the course of the trend development, the price breaks through the next resistance line and tests it as a new support. You can see that the price is set above this support level and therefore decide to buy another 40,000 units of the base currency and move the stop loss is to place the first transaction stop loss from the second transaction.
Then, for the third time, the price overcomes the key resistance, which in turn finds support on the way to further growth. the unbroken upward trend is observed again, you buy 40,000 units of the base currency and move the stop loss first and second transactions to place the stop loss the third offer.
Lots of shopping, right? In the third purchase phase, you accumulated a relatively large long position of 120,000 units of the base currency (1.2 lots). But has your risk increased? In fact, it is completely absent. In fact, in the phase of closing the third transaction amounting to 40,000 units of the base currency, with the development of the worst-case scenario, your profit will be 6.
What is the potential gain if the market passes another 200 points in the same profitable direction after the completion of the third transaction? This will be a huge gain and will account for 24 of the commercial capital. How is this possible, you ask? Let’s analyze the numbers to find out.
Now that you have well understood the dynamics that underlie the pyramid, let’s look at the numbers to see why pyramidization is lucrative.
The following figure shows the same example of a strong uptrend that you saw earlier. Only this time, the profit potential is taken into account together with the risk profile of the three completed transactions.
This is where the real magic begins. Pay attention to how the profit potential from each transaction grows while reducing risk. The first transaction alone brought you a profit of 12, which in itself can be a serious result in trading.
Let’s take a look at the best and worst scenarios for each pyramiding level in trading.
First transaction: 40000 units of the base currency
Worst-case scenario: -2 loss
Best Scenario: +12 Profit
Second transaction: 40000 units of the base currency
Worst-case scenario: Break-Even (+2 of profit from the first transaction and -2 of the loss from the second transaction)
Best scenario: +20 of profit (+12 of profit from the first transaction and +8 of profit from the second transaction)
Third and final transaction: 40,000 units of the base currency
Worst-case scenario: +6 profit (6 profit from the first transaction +2 came from the second transaction and -2 loss in the third transaction)
Best scenario +24 Profit (+12 return on the first transaction + 8 from the second transaction and +4 of the profit from the third transaction)
As you can see from the above calculations, the implementation of the worst-case scenario on newly open trading will not exceed 2 at any given time loss, while the implementation of a better profit scenario for all three transactions will be 24. This makes the use of pyramid games in trade not only very profitable, but also psychologically much more convenient for the trader.
Using pyramids in trading can be an incredibly profitable way to build a profitable position. However, it should not be used too often. If you try to complete more than one such transaction per month, there is a high probability that you are not selective enough in the transactions to which you want to apply pyramids.
Knowing when to use pyramids requires a long exercise, just as opening transactions properly takes time to plan them. However, the potential amount of profit due to the use of pyramids in trading is worth the time and effort. We recommend that you use Pyramid Trading for a demo account so that you can determine if the method is appropriate for you.
And last but not least, don’t be greedy. It is very easy to fall into the trap and believe that the market cannot turn against you, especially after the publication of important news. Keep in mind that over time the market shifts from one trend to another and even stable trends, at a certain point in time, can be strongly adjusted.
Develop a plan to terminate the transactions before you complete the first deal from the upcoming series. This allows you to make a trading plan in a neutral state. If you wait for the moment of completion of the transaction and only then determine the starting point, there is a high probability that your emotions will prevail and you will make a mistake.
Next, we’ll give you a few points that need to be considered when using the pyramid strategy in trade.
- Open pyramidizations in a stable, trendy market.
- Always determine support and resistance levels before entering the market. Create a trading plan.
- Define the goals on which you post profits before the first transaction is completed.
- Always note the correct balance of risk and profit (CRV).
- Move the stop loss of the previous position to the stop loss level of each new position to control the overall risk.
- Try not to complicate the pyramid and use the same size of the store when you open new purchases or sales.
- Don’t be greedy. Stick to your trading plan no matter what.
- Remember, among other things, that pyramidation should be applied carefully. This is not the technique that should be used when completing each transaction.
If you manage to close at least a few rows of pyramid deals for a year with profit, then this can significantly increase the profitability of your trade. But don’t forget that the risk should not exceed 2 of the capital for each transaction.