We are often asked about position sizing as this is the main reason that traders experience crippling drawdowns. When they are trading too big and a trade goes against them, they will be unable to recover from the loss of capital. However, is there ever a time that it makes sense to increase the size of your trades?

Today, Tom Sosnoff and Tony Battista see if it is viable to increase the amount of capital you allocate to trades when Implied Volatility (IV) Rank is high. The guys compare using a fixed amount of capital no matter what the IV Rank is to increasing the amount of capital used as IV Rank increase. They also look at 3 different account sizes to see how much capital you should be using based on your account!

Tony: Thomas, we're back my friend. Market Measures. Dynamic sizing. Like, slim fit XXL. Dynamic sizing.
Tom: Yeah, I think that's pretty funny.
Tony: Hey diddle diddle the bat, you know what. Took a piddle.
Tom: What the matter?
Tony: We're second fiddle.
Tom: What's the matter? Okay.
Tony: Don't worry. There will be a bat bomb in the future someday.
Tom: I'm okay with it. You know what, you may have to do it next Sunday.
Tony: Oh, because you're traveling.
Tom: I'm traveling, and I may not have time to do it. You may have to do the bat bomb.
Tony: And you know what? What's TP going to sand his toes in the sand, or something like that?
Tom: You know TP, he's a very busy guy. And …
Tony: Sunday is his day to rest.
Tom: You're the one with more time. And on Sunday, he rests.
Tony: Sunday he rests.
Tom: Yeah.
Tony: So is that your way of asking me? I'd be happy to do it. If not just for myself, for my peeps, too.
Tom: Yeah. No, it's not … Can you make Apple stop going up, please?
Tony: With Tesla and Netflix down, I mean, I thought my quotes were broken for a moment.
Tom: Can you make Apple stop going up and can you …
Tony: I can't. I have no control over it. Apple up at $1.15.
Tom: Nice little rally going on in crude oil. I don't think it comes all the way back, but nice little rally going on there. Also …
Tony: You can roll out better prices than we did.
Tom: Also, a nice little rally in bonds makes me feel a little better only in the sense that covering them. Yeah, I think a lot of people are trying to play bonds to the upside because they think they got really short term oversold and I think they did, too. But at any point, I think they can crash. I don't want to …
Tony: That's the M5. I put M5 up there. Tomorrow on the charts, it will show this from now on. Right now it's a little bid deceiving. When you just put forward slash ZB in there, you get the …
Tom: This bond point is high …
Tony: Large bond. 170.
Tom: Yeah, it was up in the 170s. Now it's down. 171. Now it's 160. I don't know.
Tony: The roll between the 2, I remember it being 19 points, 18 points.
Tom: It went down to 15 last night. Because it has to move more. It's a whole different bond. That's a basis. THat's a spread. That spread could go to $7 if the bonds crash.
Tony: Sure, sure.
Tom: I would love to see the bonds get back to 164 to 166. The June bond. That puts the March bond back to 148, 149. That's a gift from the gods if that happens. And then hopefully the stocks are a lot lower and you get to reload to that side and blah blah blah
Tony: Badabing, Badabop, Badaboop.
Tom: Yeah, Giuseppe.
Tony: But in the meantime you've got to make Apple stop. You have to make Apple stop. Agreed.
Tom: Yeah, just make Apple stop. What's GoPro doing? Did we ..
Tony: Did we jump in front of the train?
Tom: Did we?
Tony: GoPro down 97cents.
Tom: It's unchanged. Yeah, I just want to put down a few positions down to start the month off. To start the new cycle off.
Tony: Yeah, expiration cycle.
Tom: All right, we've got a really interesting segment coming up. It's called dynamic sizing.
Tony: And if you're looking for Theo, I'm getting a lot of emails about it, and maybe I neglected to say, that you can find it in the Apple App Store. Or it will be on our site in about an hour or so. You can just refresh your page and it will pop up.
Tom: Yeah, we'll put a link up on our site right now. We were just giving it a day to, you know …
Tony: To adjust.
Tom: Go viral. Viral.
Tony: You owe me a dollar. You're not allowed to use the word viral.
Tom: I'm not allowed to use the word viral?
Tony: Nobody is.
Tom: Really.
Tony: Yeah. You've got to put a dollar in the jar.
Tom: Is that a firm policy?
Tony: It's social media policy at our firm. It's a word derivative.
Tom: What other words can't you use?
Tony: There's one more. Viral and Sosnoff. You're not allowed to say Sosnoff.
Tom: You're not allowed to say Sosnoff. Okay, cool.
Tony: You have to say "Sass-noff." So, hey, I've got a question for you.
Tom: Yeah.
Tony: You've worn the black shirt with Dylan before. Is that your tough guy shirt?
Tom: Yeah. He wears white, so I'm wearing black.
Tony: Makes you the bad guy and him the good guy.
Tom: Really?
Tony: Well, yeah.
Tom: Black is the new white. And I was told by many a person in the television and film business …
Tony: Makes you look svelt? You almost disappear.
Tom: Well, I'll never forget the time I did a photo shoot, years ago, for some magazine we were in and …
Tony: GQ?
Tom: No.
Tony: Playgirl?
Tom: No.
Tony: What else could it be?
Tom: And the photographer said …
Tony: Woman's Day.
Tom: Guys like you should not wear white. I go, "I'm not exactly sure what that means."
Tony: But I'll take your word for it.
Tom: I'll take your word for it. So I always wore white after that, just to piss him off. Position size and capital allocation is primarily dependent on market volatility. The amount of risk and risk exposure we take on per trade and on a portfolio basis will change according to market and sector volatility. All right, that's pretty common sense. Tell me something I don't know. So, other than implied volatility, what are some different factors to consider when deciding on how much to allocate? Account size, portfolio make-up, or current market price extremes. All right, let's go with it. So, traditional thought is to decrease capital exposure as markets become more volatile. However, we have shown that these are areas where we need to be more aggressive. What does that mean. How can we go against tradition? Everybody's right. You know, it would be crazy to suggest that after a century of investing that traditional theory that says when markets are more volatile to get out of the way until things calm down and they're more safe. That's the way we've always invested. Invest big when things are safe to invest. And don't invest big when things are dangerous. Right?
Tony: That's always what we've been taught.
Tom: Just curious.
Tony: How do you know?
Tom: I'm also curious, if you're a surfer, if you're a surfer are you really looking for when things are safest?
Tony: What do you …
Tom: Size of waves.
Tony: Oh, no.
Tom: Well, the water is calm. Well great, I'm a surfer. What do I want calm water for. When's the greatest opportunity? You remember years ago there was a golf tournament at Pebble Beach and it was one of the ones where Tiger won and he won blowing out the field by like 12 strokes and it was windy and it was gusty and only one person broke par and it was him. And I'm thinking, it's a perfect example and its worst conditions possible and someone is just out there blowing away the field because they're looking at it as an opportunity. It's the same thing with trading. If it's a totally level playing field, why does anyone want that? With respect to environment. Who wants a totally level playing field?
Tony: How do you use your skills?
Tom: Right?
Tony: Right, I know.
Tom: Right, the advantage/the opportunity created has much to do with the environment. Depending on account size, the percentage of capital used will vary. The smaller the account, the less flexibility one has for allocation. Today, we look to test sizing and allocation based on volatility in various account sizes. Okay, now it's getting interesting. So, here's a study. And this is a great piece of research. So here's the study. 2005 to present, 120 different occurrences. We're sort 1SD strangles in SPY on 1st day of the month, held to expiration. We tested 3 account sizes, 20,000, 100,000, and a half a million. We compared 2 scenarios. Fixed allocation and scaling into implied volatility. Below is the breakdown of allocation for 2 scenarios. The percentage of capital deployed is listed in red. The intent here was to bust up the myth of fixed allocation of capital. Every single month I'm going to commit this amount of capital. Every single year I'm going to commit this amount of capital. These money managers. They've always been about fixed allocation. It's never been tested, model wise. There is no support for it in any math or logical model. It's 100% bullshit delivered to the customers all over the freaking world.
Tony: It's all buzz words.
Tom: About fixed allocation. It's all garbage. The key to long scale success is keying into opportunity as noted by implied volatility, or as defined by implied volatility. Or IV rank. That's it. Implied volatility rank. Scaling into fear slash scaling into opportunity is the only way to be successful. It's like playing black jack. Again, we always use this. Fixed allocation gambling, you cannot win. If you're going to sit down at a black jack table and bet $25 every single hand, you cannot win. It's not mathematically possible.
Tony: Overtime, right.
Tom: Overtime. It's not mathematically possible. If you're going to sit there on a short term basis and you get enough hands where you can double down, split, hit, whatever else you can do. That is your only change, which is called scaling into opportunity.
Tony: Good.
Tom: Let's take a look here and see how it works. So this first account we took is really small. $20,000 account, we took 15% or $3,000. $100,000 account we used 10% or $10,000. The half a million dollar account, we used 5% or $25,000. That is the fixed allocation.
Tony: Now, why those number?
Tom: No reason.
Tony: So you have to pick your own personal risk tolerance when you're doing this?
Tom: Right.
Tony: Got it. You can extrapolate the numbers out.
Tom: The thought process was remember, to stay really small. And if you start off with really small, at this point, you're proving concept. If you fix allocation, you're always going to be at the same amount of numbers. The scale by rank, you're going to go from 15,000, I'm sorry, 15% to 35% to 45%. Then 10% to 25% to 35%. Then 5% to 15% to 25%. That's just scaling by IV rank. We just had to pick numbers. Same percentages, picked them out of the blue, the whole shebang.
Tony: Sure.
Tom: So, here's the $20,000 portfolio. Fixed allocation, you made $6,290. This is on the strangle. Scaled, which we talked about before, you made $11,000. Percent of wins total was 82% and there you see the biggest loss on both sides. And of course you'll have a bigger loss on the scaled side. You're taking bigger positions. But, just look at the P and L difference. Scaled vs. fixed. Let's go to the next slide, which is a $100,000 portfolio. Now you're going to start to see this because it's not exactly linear and of course your biggest lost is going to be bigger on the scaled side. But just take another look. $18,000 … (chimes) Ohhhhh.
Tony: Ohhhh, NASDAQ sawing off a little bit. 44, 33, and a Q.
Tom: Well, it's a scratch from Friday.
Tony: Never thought I'd be so happy.
Tom: Never thought I'd be so happy on a scratch from Friday. Wow.
Tony: First time I've seen NASDAQ read this morning by anything over a dollar.
Tom: Yeah. I want it down a thousand dollars. I want a 50 in front of that.
Tony: I hear you.
Tom: Hey, the way the bonds are acting right now, they're not … the suggestion is, maybe they blew their brains out. That's all we can hope for. Anyway.
Tony: What percentage closes that gets you on …
Tom: 100%. Just to the scalps.
Tony: Got it.
Tom: My positions are still there, but the scalps. Okay, so, next thing. So, $100,000 portfolio. Not only can you see it's not linear and not only does the percentage go up, because the percentage goes up. Here, it's a little under a double. Here it's a little over a double. But, again, that's the nonlinear factor there. And now, we're going to take it further. On the half a million dollar portfolio, it's almost 3x. That's a beautiful piece to that equation. Now it's almost 3x. The winning percentage is great. Your biggest loss is 80grand. So it's not …
Tony: Child's play, yeah.
Tom: It's not child's play. Big numbers. Now you're talking. Just multiply that by 100 and now you're Karen. You multiply it by 10 your biggest loss is $800,000. Multiply it by 100 your biggest loss is 8,000,000. Now you're talking about what Karen deals with on a daily basis.
Tony: Right.
Tom: Because that's what that position is.
Tony: You never think about it that way. You always think about the positives.
Tom: You think "yeah, man, here's an amazing woman who just made $25,000,000, but you don't think about the days where she loses 10. What? It's not that easy. I want to be clear about that. Nothing comes easy.
Tony: Nothing comes without a price, right?
Tom: Yeah, of course. But, again, really cool takeaways of scaled versus fixed. Which shows you when people tell you we do fixed allocations and fixed diversifications, it's all garbage.
Tony: It means nothing, right.
Tom: I was out with a buddy of mine this weekend we went to the Bulls game on Saturday night.
Tony: I must have been busy.
Tom: You were busy.
Tony: All right, whatever.
Tom: So we went to the Bulls game and he was a money manager and I said, "You can believe the garbage that's out there." He said "I work for this firm and they actually buy this market timing." He goes, "and it's the biggest garbage you've ever seen in your life, but they do it to avoid litigation." So they have a third party. Basically they're held hostage.
Tony: It's not my fault!
Tom: They're held hostage by a litigious industry because they just don't want to face SEC audits and customer litigation. So they waste 100s of 1000s, if not millions of dollars of ..
Tony: Of your money.
Tom: Of the customer's money. Marking up. So they can buy market timing, so they can make allocations that are either fixed allocations or fixed diversifications, which are all bullshit to start with. SO they take your money. They overcharge you to avoid litigation. And there's no fix for it. And he's too smart. He's like, "There's no freaking fix for it." He goes "We know it and we don't have a work around."
Tony: Sad.
Tom: There's no work around. You know, it's like what do you do? He goes, "I don't know what to do. He goes, "I would never do anything they tell you to do."
Tony: You get more customer money, that's what you do. You just keep going out.
Tom: It's insane, okay. And everyone knows how stupid it is. Let's go to the last slide. So, summary. Scaling by position size and capital usage into high Implied Volatility resulted in the following percentage increase. So, percent of profit increase. This is scaling versus … I'm sorry. This is scaling vs. fixed. 76%, 120% and 178%. Small accounts, medium accounts and large accounts. Scaling vs. fixed. And let me tell you something. Nobody, I've never met a money manager in the history of the universe who talks about scaling into opportunity.
Tony: Of course not.
Tom: Scaling into opportunity.
Tony: Of course not.
Tom: There probably is a few. But I've never met them.
Tony: There are always a few in everything. There's always an outlier. But the majority of them, hold on one second. We're going to take this risk one day at a time. The day you give me the money is the day I'm going to put you into the market.
Tom: To be fair, there are gunslingers. There are certain gunslingers out there. Like a Carl Icahn is a gunslinger, he doesn't give a crap. Because, you know what, he's reached the point where all the money is his. There are gunslingers. The Bill Ackman's of the world are gunslingers. And the gunslinger mentality when you're essentially … when you can afford to lose, you're probably better off as one of their customers.
Tony: Sure, come out firing.
Tom: Because at least they understand opportunity as non-litigious.
Tony: Let's take a quick break. When we come back, we've got good trade/bad trade next on tastylive Live.