A lot of Forex traders focus on having a stop-loss plan to limit losses, but they often overlook how much they're investing in each trade. This oversight can seriously impact a trader's account, especially when using a significant amount of borrowed money (leverage), all because of choosing the wrong investment amount for each trade.

Given the higher leveraging and price fluctuation risks in the Forex Market, traders are strongly advised to calculate an appropriate position size for each trade to avoid wiping out their account with a single trade.

Here is the basic information that you should determine before delving into the details of how to calculate position sizes:

i.   Currency pair and the price that you plan to trade (e.g. USD/JPY, $149)

ii.  Stop-loss point (e.g. 20 pips)

iii. Risk percentage (refer to the next section of this blog)

1. Determine the percentage of risks per trade

So how much should you risk per trade? The rule of thumb is to limit your risk to a maximum of 2% risk per trade. Here’s a table illustrating the difference between risking 2% and 10% of your account for each trade.

 The table above clearly illustrates the impact on the account balance assuming you loss in all 10 trades. If you risk 10% of your trade each time and experience losses in all 10 trades, your account balance would dwindle to $3,488, resulting in a loss of over 65% of your initial capital. Conversely, by only risking 2% of your account in each trade, your account balance would still be $8,171, reflecting a loss of less than 20% of your initial capital.

While nobody anticipates a losing streak in all 10 trades, this serves to emphasize the critical importance of minimizing risk to avoid depleting your account in just a few trades.

2. Calculate Pip Costs per trade

After deciding how much risk you want to take, you can then calculate the total value of pips you can risk per trade using the formula below.

Value of Risks ($) = Starting Balance ($) x % risks 

Total value you can risk per pip ($) = Value of risk ($) / Stop Loss in pips

When you combine both formulas, Total value you can risk per pip ($) will be as below:

Starting Balance ($) x % risks 
         Stop Loss in pips

For example, if you plan to buy USD/JPY at $149.00 with a $10,000 account, is willing to risk 2% for each trade, and set to stop the order when you have 20 pips loss, the calculation will be as below:

$10,000 x 2%
        20

= $10 (total value you can risk per pip)

3. Calculate Lot Size per Trade

Once you know the total value you can risk per pip, you can then calculate how much lot size you can place per trade using the formula below.

Total value you can risk per pip / Pip Value = Maximum lot size you can place

Continuing from the previous example, the calculation will be as below:

Pip value = (0.01/$149) = $0.000067

Maximum lot size = $10 / $0.000067 = 149,253

This means, the maximum lot size you can place is 1.49 standard lot size so that the order is within the risk percentage that you’re willing to take per trade.

(To know more about lot size, refer to: Understanding the Basics in Forex Market - Lot sizes)

In Conclusion…

In essence, effective risk management in the Forex market extends beyond setting stop-loss points and demands a meticulous approach to determining the appropriate position size for each trade. With the inherent risks of leveraging and price fluctuations in the Forex Market, setting a 2% risk rule is important to safeguard against substantial account depletion even in the face of consecutive losses. Forex traders may follow this step-by-step guide to align their positions with their risk tolerance level. 
 

VCPlus Trading Advice:

Trading is NOT gambling. It is highly advisable NOT to place trade values that are higher than our risk appetite. 

Disclaimer

Risk management strategies may vary depending on each trader’s risk appetite. The above article is a guideline for beginners. Traders may adjust their risk management strategies along their trading journey.

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