Money Management is one of important factors in forex trading related to risk control. Trading certainly has risks. No matter how large our capital is, we surely want to limit the amount of risk that might occur.
Learning to understand risk control correctly is the key to success in generating consistent profits in the long run. Many beginner traders whose accounts are messy because they do not apply Money Management well. Some even do not know anything about money management.
In ithis article, let’s discuss the 5 main things in learning Money Management that you must understand and apply it correctly in forex trading.
5 Key Points in Learning Money Management
The Amount of Risk Per Trade
The amount of risk per trade is measured by the value of money, not by pips. Usually, this is determined as a percentage of the capital or balance in our trading account.
Assuming we don’t have a trading position and the balance in our account is still intact. Then, the risk per trade is the amount of loss that we determine in opening a trading position. There are no fixed conditions for this, and some traders may be differ from other traders, depending on their financial condition. THus, you should use funds that you will not be use shortly. Besides, avoid forex trading by using funds for everyday life. Assume that your funds allocated for forex trading are funds that are ready to disappear, so you are not emotional when trading.
As an illustration, professional traders whose income is only from trading (stocks, forex, options, etc.), rarely risk more than 3% of their total capital. On the other hand, many experienced traders recommend a risk of between 3% and 5% of capital.
However, no matter how much risk you determine, you must feel comfortable with the choice. Thus, you can trade calmly and without emotion.
Well, why is the risk measured by the value of money not by pip? This is related to the size of the lot or volume per trade that we will use under the calculation of risk, or commonly called position sizing which will be explained in the next point.
2. Large Size of Lot Per Trade (Position Sizing)
The second tip in learning Money Management is the large size of the lot or volume.
How to determine trading volume based on risk is commonly called position sizing. With position sizing, the amount of risk in the value of money will always be the same, no matter how large the Stop Loss (risk in pip) that we specify. We can adjust the trading volume under the most appropriate Stop Loss for us.
For example, we trade with Standard Lot on the EUR / USD currency pair. Thus, the value per pip is USD 10. If we have a balance of USD 25,000, and the risk we set to open a position is 4%, then the amount our risk is: USD 25,000 X 4% = USD 1,000.
The results of our Stop Loss analysis is 50 pips. Then, our trading volume in Standard Lot is: USD 1,000 / (50 X USD 10) = 2 lots
If there are 2 traders with different capital but applying the same risk percentage and the same Stop Loss, the lot sizes are certainly different. The bigger the trader, the bigger the trading volume will be even though the Stop Loss (risk in pip) is the same.
That is why in learning Money Management, you can measure the amount of risk per trade by the value of money, not by the amount of pip in a Stop Loss.
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