How Much Money Do you Need to Start Trading?

One of the questions we frequently get is, "how much money do I need to start trading?"

I could give a glib answer and say you can start with $50 (or less) which is completely true. In today's world of commission free brokerages and cheap products, you could start with very little and try to build up your account.

Moreover, there is no shortage of YouTube videos out there to convince you that you can grow a micro account into a fortune by following their lead and buying their products. Maybe you're one of the lucky ones who does do that - there's a great book on this type of person - but I wouldn't count on it.

Most people aren't looking for an absolute minimum account size to start with, however. The question behind the question is: "How much money should I put into my trading account to achieve to my goals?"

Framed this way, we realize there's no "right" answer to this question. But it's a more helpful question because it allows you to reflect on why you want to trade so you can be more discerning about the products you buy and the advice you follow.

I am going to follow the process I've learned when speaking with people to answer this question and walk through it with a hypothetical individual for example.

First, the standard disclaimer:

This is not financial advice. All investments involve risk of loss. Speak to a licensed financial professional.

With that out of the way, let's proceed to the first step.

Start with "Why?"

Why do you want to trade?

Do you want to supplement your income? Do you want to quit your job and trade full-time? Do you want to build your trading accounts for your retirement? Is it just for the fun of it?

Whatever your motivation, we can do some quick math to ballpark how much you should have.

Meet Tim.

Tim is an engineer who wants to trade to supplement his income. Eventually, Tim wants to transition out of his job and start a small business. He estimates he needs to save $150k in order to open his business.

His timeline is flexible - the sooner, the better - but if it takes 7-10 years to get there, he's comfortable with that; Tim understands that you don't build wealth overnight.

In the table below, we show how much starting capital Tim needs to hit his goal by year (left column) and net annual return (top row).

These are just simple projections, but it gives us a good feel for how much you could start working with now in order to achieve a certain result in the future.

I don't know what your goals are or your starting capital, but just doing some simple math shows that steady compounding at even 10%/year isn't going to catapult you to your dreams anytime soon unless you're already starting with a reasonable chunk of cash you're willing to put at risk.

Trading for Income

Likewise, if you want to earn an income from your trading to replace your current job, you probably need to have a decent amount of money already saved and ready to go. That doesn't mean you can't start today and work your way up, but rather, you need to be realistic about your expectations.

For example, say you devise a strategy that you think can get you 12%/year net of all fees and taxes (can't forget those!). You're making $75k/year and want to be able to transition to full-time trading without hampering your current income. That means you're going to need at least $625k/year to make that goal work today (and I'd argue you need more because a 12% annual average return doesn't mean you're going to make 12% every year, often times you'll be below that level).

Again, you can start now and work up to that - which would probably be a good idea to gain experience as you save - but forget quitting and thinking your $10k (or $100k) account is going to take you where you want to go in the time you want to make it there.

What's your limit?

There's a chance you could lose your entire trading account. In fact, a lot of successful traders have done that (they then became successful because they learned from their mistakes).

How much could you stand to lose assuming your account goes to 0?

For some people, $50k is no big deal. They may make enough to cover that quickly, have a very high risk tolerance, or some combination of factors that allows them to shrug that off and move on. Others would see that kind of loss as being devastating.

Whatever your limit is, think long and hard about it.

How will losing this money impact my lifestyle?

How will it impact my long-term plans?

How will it impact my relationships (quintuply important if you're married or have kids)?

Once you get your number, don't just wire that amount into your trading account tomorrow and go. Build up to it.

For one, you probably overestimated your risk tolerance and would find trading that full amount to be too difficult from the get-go.

Also, as you gain experience, you'll learn more about what your risk tolerance actually is and likely get more comfortable with it gradually.

This is one of those cases where simply diving in head first is highly inadvisable.

What if I can't achieve my goals?

If your risk tolerance doesn't let you achieve your goals, then revise your goals: do not take on more risk than you can handle!

Let's go back to our example of Tim the engineer for an example.

Say he's completed the first exercise and realizes he has $80k and reach his goal in <5 years by putting all of that to work today. After some thought and reflection, he realizes that he couldn't stomach an $80k loss - that's his life savings! The most he'd be able to cope with is a $40k loss, but trading with that more than doubles the time he needs to hit his goal.

At this point, most people would try to suck up their risk tolerance and play with the full amount or, at least some amount greater than $40k.

The trouble is psychological. If you're playing a game you don't have the mindset for, you are going to be taking a major toll on your health and well being, chasing dollars at the expense of everything else.

You'll find yourself worrying about your account and your trades to the detriment of your sleep and your ability to focus. This may also cause you to deviate from your trading system, which typically means you're taking on more risk, not less. This mental tax begins to compound as your PnL lags your expectations and you begin to fall behind.

Too many people have to learn this lesson the hard way, so please, don't be one of them. Revise your goals to take into account your risk tolerance rather than try to increase your risk tolerance out of the gate to hit your goals.

You'll be better off setting more realistic goals today, growing as a trader, then revisiting and updating those goals with the benefit of experience rather than going in too heavy and burning out or blowing up.

What's your strategy?

It's easy to get caught up by a flashy strategy with high-returns.

Before making a single trade though, you need to know the ins-and-outs of that strategy. Depending on things like costs and capacity, you may find that your account is too large or too small to be profitable.

How much does your strategy cost?

The cost of running your strategy can take many forms such as:

• Transaction costs
• Capital costs
• Software costs
• Taxes
• Data costs

Lot's of people pay for training programs, access to trading groups, tools, and so forth, but these get ignored in the final calculation.

Assume you're in a $1,500k/year group that promises (and delivers) on a 15% annual return. Just to break even on this cost, you need $10k in your account! Anything below that and you'd be losing money on net, and that's before paying any of the other applicable costs.

Transaction costs have been practically eliminated for retail traders on major exchanges, but if you're moving larger amounts - or trading futures or other instruments - transaction costs come back into play. If you're trading frequently and have to cover transaction costs, you may see your profitable strategy suddenly turn into a loser.

Does your strategy rely on leverage? If so, that's an extra cost you need to factor in!

What about data or software? If you can't trade enough to make up for those costs, best find a different strategy or wait until your account grows so that it doesn't result in such a drag on your performance.

And of course, there are taxes to consider.

Not every country has capital gains taxes, but if you're in the US, then you need to consider them and realize that's going to eat into your profits.

You can eliminate taxes by trading within an IRA account, but that may or may not align with your goals (e.g. time and withdrawal limitations).

You could also set up an off-shore company in a tax-free jurisdiction to conduct your trading, but this can also be expensive, time consuming, and only worth it if you're trading a fairly large account.

Does your strategy have enough capacity?

Some trading strategies will see returns diminish if the capacity is too small. Others are going to require a minimum account size to pull off.

Great returns can be made in smaller, niche markets or where other restrictions present an arbitrage opportunity. A famous example is the Kimchi Premium in Bitcoin, which sells for 4.5% on South Korean exchanges above global prices due to a series of capital controls and other restrictions imposed by the South Korean government.

Let's say you devise a strategy that let's you exploit this for a 20% gain per year. That's a phenomenal rate of return, but should you do it?

Due to those capital controls, the capacity of this trade is severely limited.

Assuming you can get into the market to pull of the trade as a foreigner, you can only transmit $20k per year out of the country - which is essential for reinvesting your winnings and getting this trade to compound. This means, you're essentially capped at $4k/year profit despite the great ROI on this trade.

Maybe that can be a small part of your overall strategy, but this isn't going to scale enough to hit the goals for most people.

On the other side, there are some strategies that have high capacity, but you need a lot of capital to pull them off.

Take traditional trend following strategies. Funds are widely diversified across a few dozen different futures contracts to provide exposure to trends as they emerge, and it works great. The trouble for most individuals is that it requires a lot of capital to pull off.

Look at oil - a popular and highly liquid contract - a single contract gives you control of 1,000 barrels of oil. If oil is trading at $80/barrel, that single contract is going to cost you $80k! Futures exchanges typically provide generous leverage meaning you only need to post 15-30% of the capital to control that contract, but if you want to get the diversification needed to pull off this kind of strategy, you're going to need a bigger account or to figure out a way to get access to these instruments with a smaller account.

How much do you need?

Hopefully you can see that there's no "right" answer to this question. It depends on you and your personal situation.

If thinking through these questions discourages you from opening an account and trading, that's good. You probably weren't cut out for it anyway and I'm glad I could save you the trouble and frustration of losing your savings.

If you're still intrigued but not sure you have enough, I'd say to keep working at it. You may be able to find some low-cost products that can teach you the ropes and get you off the ground. Over time, you can build and grow as you learn more about trading and yourself.

We make a lot of resources freely available to help teach people about systematic trading and investing. If you're interested in more, check out our tutorials or sign up here to get on our email list.