Why Traders Fail: The Mathematics of Position Sizing and Risk Management

In the world of financial markets, whether you are trading Nifty futures, Banknifty options, or individual stocks, there is an endless pursuit of the “perfect strategy.” We spend countless hours backtesting technical indicators, refining our entry criteria, and studying price action patterns. We read books on stoicism to master our psychology and study macroeconomics to understand the trend.

However, after years in the market, one realizes that while strategy is the engine, it is not the steering wheel. You can have a Ferrari of a strategy, but if you drive it off a cliff, the engine doesn’t matter.

Recently, I had an illuminating discussion with a veteran fund manager from Dalal Street—a gentleman who has been navigating the Indian markets for over 23 years and currently manages a book of roughly ₹350 Crores. He has survived the volatility of the 2004 elections, the brutal 2008 crash where Nifty lost 60%, the COVID flush of March 2020, and every bull run in between

I asked him a fundamental question: “What separates the traders who survive for decades from the traders who blow up their accounts?”

I expected the usual answers: Discipline. Emotional control. A superior edge.

His answer was immediate and surprisingly simple.

“Bet sizing. That’s it. That’s the whole game.”

It wasn’t about being a genius chartist. It wasn’t about predicting the next top or bottom. It was entirely about the mathematics of how much capital is deployed on any single trade.

In this post, I want to share the insights from that conversation, the mathematical realities of “High Conviction” trading, and the rules you must implement if you wish to survive in this business for the long haul.

The Thesis: It Is Not the Bad Trades That Kill You

There is a common misconception among retail traders that accounts are blown up because of a lack of knowledge. We assume a trader failed because they didn’t understand Elliott Wave theory, or they bought a stock that had bad fundamentals.

The veteran trader corrected this assumption immediately.

“I’ve seen hundreds of traders come through,” he explained. “Good ones. Smart ones. Talented ones.”

“90% of the ones who blew up didn’t blow up from bad trades. They blew up from bad sizing on normal trades.”

This is a critical distinction. A “bad trade” (a losing trade) is a statistical inevitability. Even the best systems in the world often have win rates between 40% and 60%. Losing is part of the overhead cost of the trading business.

• A 1R loss (1 unit of risk) at proper size is nothing. It is a scratch. It is a business expense.

• A 1R loss at 10x proper size is account death.

The market does not care how good your analysis is. If your sizing is incorrect, a standard, run-of-the-mill losing streak becomes a catastrophic event that destroys your capital and your mental capital.

Case Studies: Talent vs. Mathematics

To illustrate the point, the fund manager walked me through two specific case studies of traders he had observed. These examples highlight the difference between “trading well” and “sizing well.”

Trader A: The “High Conviction” Trap

Trader A was a technically gifted trader.

• Strategy: Excellent. He maintained a 58% Win Rate.

• Track Record: He was consistently profitable for 2 years.

Trader A fell into a trap that catches many intermediate traders. He identified a trade setup that he deemed “High Conviction.” The technicals aligned, the fundamentals were supportive, and his gut told him this was a sure thing.

Because of this conviction, he deviated from his rules. He sized up 5x his normal position.

The market, as it often does, defied expectations. The trade lost.

Because he was leveraged 5x his normal size, the drawdown wasn’t his standard 1% or 2%. It was a 23% drawdown in a single trade.

This is where mathematics breaks psychology. When you lose 23% of your capital in a few days, you enter a state of panic. Trader A felt the desperate need to “make it back.” His psychology cracked. He began revenge trading the following week, forcing setups that weren’t there, maintaining large size to recover the loss quickly.

He blew the entire account in 8 days.

The veteran’s assessment was brutal but true: “He didn’t blow up from a bad trade. He blew up from a big trade.”

Trader B: The Power of Consistency

Trader B was, by comparison, a mediocre technician.

• Strategy: Average. A 51% Win Rate (barely better than a coin flip).

• Track Record: Survived for 11 years.

Trader B had a rigid rule. He never sized above 0.8% risk per trade.
It didn’t matter if the setup looked like the trade of the century. It didn’t matter if he was on a winning streak. He took the exact same risk on every single trade. No “high conviction” sizing.

Because his losses were always less than 1%, he never experienced a drawdown deep enough to trigger an emotional response. He simply executed his system, day in and day out.

“He’s worth $4M now,” the veteran noted. “He started with $50k. He just never killed himself with size.”

Trader B understood that trading is not about hitting home runs; it is about staying at the plate long enough to let the law of large numbers work in your favor.

The Fatal Error: Sizing Based on Conviction

The core lesson from these examples is simple but difficult to implement.

“Every trader who blows up violates the same rule,” the manager said. “They size based on CONVICTION instead of MATH.”

We are all guilty of this. We say things like:

• “This setup feels perfect, I’m going to double my lots.”

• “I’m on a winning streak, I’m playing with house money, let’s go big.”

• “I need to recover yesterday’s loss, so I need a bigger position.”

The reality is that conviction is simply a mechanism we use to justify stupid sizing.

The internal research from the fund was startling. They tracked the longevity of traders based on their sizing habits:

• Traders who sized based on conviction (variable sizing):

  • Average survival time: 2.4 years

  • Account explosion rate: 74%

• Traders who sized mathematically (fixed sizing):

  • Average survival time: 8.3 years

  • Account explosion rate: 12%

The data is irrefutable. Variable sizing kills traders. It introduces an emotional variable into a statistical game.

The Mathematics of “High Conviction”

Why is sizing up on a “sure thing” a mathematical error?

The veteran broke it down using probability theory.
Let’s assume you are a good trader.

• Normal Accuracy: 60%

• “High Conviction” Accuracy: 70%

It sounds logical to bet bigger on the 70% trades. However, this ignores the distribution of losses.

Scenario 1: The Mathematical Sizer

• Accuracy: 60%

• Risk: 1% per trade

• Outcome of a 4-loss streak: -4% Drawdown.

• Recovery: A 4% loss requires a 4.1% gain to get back to breakeven. This is easily manageable.

Scenario 2: The Conviction Sizer

• Accuracy: 70%

• Risk: 5% per trade (Because you are confident)

• Outcome of a 4-loss streak: -20% Drawdown.

• Recovery: A 20% loss requires a 25% gain just to get back to breakeven.

The veteran pointed out the harsh reality: “4-loss streaks happen even at 70% accuracy.”

If you simulate 100 trades with a 70% win rate, there is a very high probability that you will encounter a string of 4 or 5 losses in a row. If that streak happens while you are “sizing up” because of confidence, you dig a hole that is mathematically difficult to escape.

You feel more confident, but the math does not justify the increase in risk.

The Drawdown Recovery Trap

To understand why bet sizing is the most important aspect of trading, you must respect the math of drawdowns. Losses work arithmetically against you, but gains must work geometrically to recover.

• If you lose 10%, you need +11% to recover.

• If you lose 20%, you need +25% to recover.

• If you lose 50%, you need +100% to recover.

• If you lose 90%, you need +900% to recover.

When Trader A took that 23% loss, the pressure on his next trades increased exponentially. He now had to outperform the market significantly just to see $0 gain. This pressure leads to forced errors, which leads to more losses, which leads to a blown account.

By keeping your risk fixed at 1% or 2%, you ensure that you never slide down this slippery slope.

The Solution: Boring, Consistent Execution

So, how does a seasoned professional managing a portfolio of ₹350 Crores size his positions?

“Same size every trade. No exceptions.”

I pressed him on this point, looking for the loophole.

Me: “What about when you’re really confident?”
Him: “Same size. Confidence isn’t accuracy.”

Me: “What about when the setup is perfect?”
Him: “Same size. Perfect setups lose 40% of the time.”

Me: “What about when you’re on a winning streak?”
Him: “Same size. Streaks end.”

Me: “What about the ‘boring’ trades?”
Him: “Same size. Every trade gets the same respect.”

This approach removes the ego from trading. It treats every trade as nothing more than a statistical probability. You execute the edge, you manage the risk, and you let the law of large numbers determine the outcome.

Implementation: Rules for Survival

Based on this veteran’s 23 years of experience, here are the rules for position sizing that every retail trader should adopt immediately.

1. Calculate Your Base Risk
This should be between 0.5% and 2% of your total trading capital.

• If you have a ₹5,00,000 account, a 1% risk is ₹5,000.

• This is your maximum loss per trade.

2. Fixed Fractional Sizing
This risk amount applies to EVERY trade.

• If your Stop Loss is 10 points wide, you calculate your position size so that a 10-point loss equals ₹5,000.

• If your Stop Loss is 50 points wide (due to high volatility), you reduce your position size so the loss is still only ₹5,000.

• Volatility changes. Your risk amount does not.

3. Never Size Up
Do not increase your risk because you “feel good.” Do not increase it to make back losses.

4. Scale Capital, Not Risk %
This is how you grow.
“If you want more money, scale accounts/capital. Don’t scale risk.”
As your account grows from ₹5L to ₹10L, your 1% risk naturally grows from ₹5k to ₹10k. You are making more money, but your risk profile has remained exactly the same.

“I’ve been trading 23 years,” he told me. “I’ve never taken a trade above 2% risk. Not once.”

“My biggest winners and my ‘meh’ trades got the same size. I’m not trying to hit home runs. I’m trying to not strike out.”

Conclusion: The Retail vs. Professional Mindset

There is a distinct difference in mindset that this conversation highlighted.

Retail Traders are obsessed with the upside. They think they need massive trades to make life-changing money. They treat the market like a casino, looking for a jackpot.

Professional Traders are obsessed with the downside. They know that big trades usually lead to big losses. They treat trading like a business where capital preservation is the primary goal.

The traders managing real money make their fortunes through the VOLUME of good trades over years, not the SIZE of individual trades in a week.

If you are currently looking at your charts and varying your position size based on how much “conviction” you have: You are already on the path to blowing up.

It is not a matter of if, but when.

To survive the Nifty, the Banknifty, or any asset class for the next decade, you must adopt the rule of the survivors:

Same size.
Every trade.
No exceptions.

That is how you survive. That is how you compound. That is the secret to longevity.