After much live trading and doing research on Forex Trading during my free time, there are three important money management rules that are necessary to become a successful Forex trader.
a. The Forex Market is always there so preserve your capital to fight another day.
b. Know your threshold of pain in terms of monetary value.
c. How to determine the lot size so that you won’t get wiped out at one trade?
The Forex Market is always there so preserve your capital to fight another day.
With this rule in mind, you already have an edge over other investors. Whether you like it or not, there will be time when you are wrong with your trade analysis and when that happens, by not losing the entire capital, you can still return to the market and continue to fight.
With that in mind, the subsequent two rules that I will be discussing below will help you to survive every day in the Forex market.
Know your threshold of pain in terms of monetary value.
Firstly, ask yourself how much can you afford to lose in terms of monetary value, say USD$200, USD$500, USD$1000 or USD$2000 for each trade that you will not feel so painful or lose sleep, lose appetites or lose temper over this loss.
If you can’t even lose USD$100 to 300, then it will be advisable for you to quit trading and is better for you to stick to your job and trading is not an option for you.
Most traders feel that 1 to 3% is for the less aggressive traders and 4-5% is for the more aggressive traders. They use this formula to determine their risk per trade:
Amount of Risk = Risk % * Capital Invested or Account Balanced
For example, if I have USD$50000 as my capital and I only want to risk 2%.
Therefore, my amount of risk = 0.02 * 50 000 = USD$1000 per trade.
What if I win another USD$10000 and now my account is USD$60000.
Now my amount of risk = 0.02 * 60 000 = USD$1200 per trade.
Again, you will need to ask yourself is it very painful for you to lose USD$1200 for one trade? If it is, then reduce the amount so that you won’t be emotionally affected by the losses and make stupid and impulsive decision.
How to determine the lot size so that you won’t get wiped out at one trade?
To determine the lot size, you must know the entry price and stop loss price beforehand. This is because with these two prices, you can then determine how many pips to lose if you are wrong about the trade analysis.
For example, there is one trade setup on EURUSD and you are willingly to lose USD$500 for this trade. The current EP is 1.2900 and the SL in accordance to your strategy indicates 1.2950, therefore the total pips to lose is 1.2950-1.2900=0.0050 or 50 pips.
If each pip on the EURUSD is worth USD$10 for a standard lot, therefore the total loss in dollar terms = 50 pips * USD$10 / pip = USD$500.
Therefore the total lot size = Amount at risk / (pips at risk * value per pip)
= USD$500 / (50*10)
= 1 lot
Then go to the MT4 Order Screen, under Volume column, enter 1.
IfÂ you decided that you can only lose USD$50, then applying the same formula and the same 50 pips losses,
Lot Size = 50 / (50*10)Â = 0.1
Then you just have to enter 0.1 into the Volume column and then shutdown the computer and go and do your other work.