Oct 21, 2026 · 53 min
Tom Basso turns drawdown control into a trading discipline
How Market Wizard Caps Risk And Neutralizes Drawdowns
The episode shows how position sizing, diversification, hedging, and emotional discipline can make a trading system survivable through volatile markets.
- 1Systematic traders can respond to price action without predicting markets, while spreading exposure across genuinely independent return streams.
- 2Drawdowns are inevitable, but predefined risk limits and repeated position trimming can reduce their magnitude without eliminating upside participation.
- 3A durable trading system must match an investor’s goals, temperament, assets, and tolerance for psychological discomfort.
Don't miss
Basso reframes a good trading day as one in which the trader followed the strategy, whether or not the result was profitable.
The brief
Tom Basso, known for his systematic approach and reputation as “Mr. Serenity,” explains why difficult trends call for broader opportunity sets rather than sharper predictions.
His framework combines formula-based position sizing, diversified return streams, and careful exposure management, while recognizing that stocks that look diversified can move together.
Basso treats emotional detachment as a trading skill: chasing SpaceX or Tesla after a move matters less than following the system and accepting missed opportunities.
The episode’s central risk lesson is practical: when positions exceed a predefined threshold, trimming repeatedly can reduce drawdowns and stress while preserving participation.
Basso closes by arguing that traders should build systems around their own objectives and temperament, then execute them consistently instead of second-guessing every result.
What was said on this episode
37 statements · 23 positive · 9 negative · 1 mixed · 4 neutral
Short crude oil or bond futures can profit when prices fall or interest rates rise.
“there's been markets like crude oil, for instance, or bonds to the downside, where you could trade the futures contract on the ultra bonds, for instance, go short. Interest rates keep climbing, and you're short, you're making money.”
Listen at 2:24
Trend followers should enter breakouts and manage risk with volatility-based stops.
“I go long. I don't question it. I jump on board, and I manage my risk by putting a stop behind it.”
Listen at 5:09
Position size should be based on account equity.
“I base that on my equity. If I have a larger account, I'm going to buy more shares. If it's a smaller account, I'm going to buy, you know, smaller number of shares.”
Listen at 5:54
Highly volatile positions should receive smaller allocations.
“if a situation is very volatile, then I'm not going to own much of it.”
Listen at 6:43
Investors should build larger positions during low volatility and reduce exposure during high volatility.
“it's just logical to try to build your big positions in quiet periods where there's low volatility. And when things get exciting, either pare back your position, take some profits, or, you know, just basically, if you're putting on a new position, buy less of it.”
Listen at 7:02
Volatility-adjusted sizing reduces leverage and risk of ruin.
“that just does so much to help you be underleveraged, takes away more of the risk of ruin”
Listen at 7:19
A complete strategy covering entry, exit, protection, and sizing improves trading outcomes.
“you've got a complete trading strategy. You're going to be a whole lot better off than having one of those pieces missing.”
Listen at 7:54
Traders should size positions according to calculated risk requirements.
“size your position according to what it should be.”
Listen at 8:46
Extreme diversification across non-correlated return streams spreads portfolio risk.
“I like extreme diversification. So, to me, that just makes sense to me. It spreads my bets across a lot of non-correlated return streams.”
Listen at 10:59
Basso generally maintains portfolio exposure near 100%.
“I run right around 100%”
Listen at 12:06
Basso avoids portfolio exposure near 200% through margin.
“I'm nowhere near 200 in fully all out in margin.”
Listen at 12:48
Basso evaluates trading strategies using a 1,000-trade dataset.
“I'm looking at trying to put together a database of 1,000 trades.”
Listen at 15:00
A successful trading day is defined by following the strategy, not profit or loss.
“A good day is not whether you made money or lost money. A good day is a day you followed your strategy.”
Listen at 16:26
Portfolios should maintain balance rather than rely on one dominant position.
“You want to have balance”
Listen at 17:57
Basso prioritizes maximizing returns for minimal risk.
“I'm a return-to-risk guy, and I always have been from the beginning. So I want a minimal amount of risk, and I want a maximum amount of return for that amount of risk.”
Listen at 22:18
Basso considers the Sharpe ratio an unhelpful performance measure.
“I don't think that's a useful measurement of anything”
Listen at 22:33
Drawdowns below 5% for one or two months may remain psychologically tolerable.
“If you go down a little bit for a short amount of time, say less than 5%, maybe for a month or two, you can tolerate that.”
Listen at 23:04
Drawdowns beyond 5% or 100 days begin causing psychological discomfort.
“I start getting past 5% down, maybe beyond 100 days of drawdown, and then you start thinking, well, I wonder how long it's going to take me to get out of this hole.”
Listen at 23:17
Halving risk substantially improves the return-to-risk ratio.
“if you could cut your risk in half, for instance, you're going to really jack up your return-to-risk ratio.”
Listen at 27:36
Trend-following drawdowns consist of two distinct phases.
“there's really 2 parts to a drawdown in a trend-following sense of things.”
Listen at 27:45
Basso initially allocates 0.5% of equity risk to a position.
“let's say I get into a position, and it's 0.5% of my equity allocated to risk.”
Listen at 29:32
Basso caps each position’s equity risk at approximately 1%.
“I'm willing to let every position get to 1%, but if it gets over 1%, now it's starting to get a little too much of my equity in terms of what's at risk”
Listen at 30:25
Positions exceeding 1% risk should be trimmed back to 1%.
“if it gets to 1.1%, I would sell off enough of that position and shares or contracts in the futures area or whatever to get back down to the 1%.”
Listen at 30:37
Position-risk caps reduce but do not eliminate drawdowns.
“It will not eliminate your drawdown. It'll just help you a little bit.”
Listen at 31:18
Winning positions should be allowed to run with proper sizing and rising stops.
“You let it run. You keep your position sized properly. Move your stops up when you can, and just run the strategy.”
Listen at 33:57
Stock correlations have increased over Basso’s lifetime.
“The correlations in stocks have gone up since I've been alive.”
Listen at 36:14
Recent research places average U.S. stock correlation in the high 0.80s.
“Some recent work on that same number would put it up in the high 80s now.”
Listen at 36:34
Achieving meaningful diversification has become more difficult.
“you have to really work hard to get diversification anymore.”
Listen at 37:43
Commodity markets such as lean hogs can provide diversification from the S&P 500.
“the S&P 500 doesn't care what lean hogs is doing today, and lean hogs doesn't care what the S&P 500 is doing today. So you have true diversification in some of those markets”
Listen at 38:09
Combining long-term and scalping strategies provides time-frame diversification.
“you could have a long-term strategy, for instance, that might be based on 21 days or something, and then you could have another one that's scalping.”
Listen at 40:54
Basso diversifies across commodities, stocks, and ETFs.
“I like to diversify myself by market. So I do commodities and stocks and ETFs.”
Listen at 41:51
Basso recommends diversification across trading time periods.
“I like to diversify myself by time period.”
Listen at 41:58
Diversification increases opportunities to capture the next major trend.
“by diversifying, you're giving yourself that opportunity to find the next big winner.”
Listen at 43:32
A faster index-futures short can hedge a correlated long-stock portfolio during downtrends.
“you set up an indicator, maybe a Keltner, a Donchian, something that works for you, maybe a combination of several things, Bollinger Bands, whatever you want, whatever you're comfortable with. And you set the time period so that it's a little quicker acting than your long-term stock portfolio. So now you start getting a downtrend and you go ahead and short one contract or however many contracts you need to short to basically balance off the volatility of your big stock portfolio”
Listen at 44:37
Hedging benefits portfolios when falling markets damage long positions.
“The other side of it, the benefit of hedging, is the stock market keeps going down and your stocks are getting killed.”
Listen at 45:22
Traders should customize strategies to their personality, assets, and knowledge.
“create a strategy that suits you and your personality and your assets and your knowledge of various things. Customize it to yourself.”
Listen at 47:12
After building a strategy, traders should execute it consistently without second-guessing.
“once you create that strategy, sort of turn your brain off and run it every day.”
Listen at 47:30
Statements are attributed to the speaker as said on the episode and reflect their view at the time, not PodLume's. They are not advice.
Books & mentions
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