When most people first start trading they often start small. As they get better at it, they trade more. They might start with one contract and then move to ten contracts. As time progresses, they reach a certain comfort level with their trading, but are still afraid to take risks beyond that level. As a result, they never trade at levels of 100 contracts or 1,000, so they never experience large profits.

There is a better way in which the object is to try to keep things in constant leverage terms. In other words, you trade the same as your equity increases. By using a trend following approach to money management, you are never afraid of getting big. You are prepared, so you know what you will do in advance as your account grows. This is a key to the trend following money management.

Mechanical Systems

Risk taking is essential to successful trading, as long as it is calculated risk. When you take a risk it is useful to have a mechanical trading system for several reasons: You increase your diversification, reduce your work load and make your trading life easier. Mechanical trading systems enable you to take a risk without getting personally involved. Although you might not be happy when you are going through a drawdown or taking a loss, at least you’re not agonizing over your trading decisions on a day-to-day basis. It’s the rare individual who can sit in front of a quote screen and make consistently good trading decisions day after day. Other components of your life will always impact your thinking generally and your trading decisions specifically, unless you rely on a mechanical system.

Trend following trading is predicated on the fact that human beings are not psychologically equipped to interact profitably with markets. When money is involved, psychological pulls interfere with objectivity. As a result, human beings who have money on the line tend to take their losses too late and their profits too soon. The problem of taking profits too soon particularly affects traders. They often feel a strong desire to close out a profitable position when it starts to move against them. Mechanical systems overcome these psychological and emotional reactions.

Why Constant Leverage Is the Key to Compounding

The comfort level plateau described in the opening paragraphs is one of the most common and least discussed failure modes in trading. A trader who grows an account from $50,000 to $500,000 has demonstrated genuine systematic edge. But at $500,000, the same percentage position sizing that was comfortable at $50,000 produces ten times the absolute dollar exposure. The trader who was fine risking $1,000 per trade is now risking $10,000 per trade with identical percentage exposure. The risk tolerance that was calibrated at $50,000 often does not scale with the account.

The constant leverage principle solves this by making the position size a mathematical function of current equity rather than a fixed dollar amount or a fixed number of contracts. A system that risks 2% of equity per trade risks $1,000 when the account is $50,000 and $10,000 when the account is $500,000. The percentage is identical. The system does not require the trader to decide to increase position sizes as the account grows. The rules make that decision automatically and consistently. The trader who has never been afraid of risking 2% of their account is never afraid of getting big, because getting big simply means 2% is larger in absolute terms.

The psychological mechanism behind the comfort level plateau is the same one that produces the disposition effect: the 2% feels different at $10,000 absolute than it did at $1,000 absolute, even though the percentage and the expected value are identical. The trader personalizes the absolute dollar amount rather than the percentage. A mechanical system that defines position size as a percentage of equity decouples the sizing decision from the psychological experience of the absolute dollar amount. The rules do not feel different at different account sizes because the rules do not have feelings.

The observation that trend following is predicated on human beings being psychologically ill-equipped to interact profitably with markets is the foundational argument for systematic trading. It is not a moral claim about human weakness. It is a structural claim about how psychological responses to money and risk distort decision-making in predictable and consistent ways. The disposition effect, loss aversion, the comfort level plateau, and the tendency to exit winners early are not random errors. They are systematic errors produced by how human cognition responds to financial gain and loss. A mechanical system addresses them structurally by removing the human decision from the moment when these biases operate most powerfully.

Frequently Asked Questions

What is constant leverage and why does it matter for trend following?

Constant leverage means sizing each position as a defined percentage of current account equity rather than as a fixed dollar amount or fixed number of contracts. As the account grows, the absolute dollar size of each position grows proportionally. This ensures that the system’s compounding potential is fully realized: winning periods produce larger positions that produce larger absolute gains, and the percentage risk remains constant regardless of account size.

Why do most traders get stuck at a comfort level and never trade large positions?

Because the absolute dollar amount of each position increases as the account grows, even when the percentage risk is constant. A trader whose risk tolerance was calibrated at small account sizes often cannot accept the larger absolute dollar amounts that the same percentage produces at larger account sizes. The comfort level reflects a dollar-based psychological threshold rather than a percentage-based rational threshold. Constant leverage sizing eliminates this problem by keeping the percentage constant and allowing the absolute dollar amount to scale mechanically.

Why are human beings psychologically ill-equipped to interact profitably with markets?

Because the psychological responses that evolved for other decision-making contexts, loss aversion, the tendency to lock in gains and gamble on recoveries, sensitivity to absolute dollar amounts rather than percentages, produce systematic errors in market contexts. These errors are not random. They consistently cause traders to exit winners too early and hold losers too long, which is structurally the opposite of what a positive-expectation trend following system requires. Mechanical rules address these errors by making the correct decisions in advance, before the emotional triggers that produce the errors are activated.

Trend Following Systems
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