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There are two reasons you need to look at Money management. The first is determining the amount of risk you are willing to take in each trade. The second is to use the position size calculator to determine how many lots you should buy or sell so you don’t go over your determined risk amount. Money management is critical in the long term success of traders.

Money Management

“Cut your losses short and let your profits run.”

You may be familiar with this phrase, but you need to really understand what it means and believe it. This is one of the most critical rules that you can learn. Your success depends on following this rule. It is easier said than done, because it goes against our nature to do it. This is another one of the changes you need to make in your personal thought process. Most people want to take their profits as soon as they make any money, however, they will hold onto their losses forever. They are always hoping the price will come back and, at a minimum, they can break even. This is a bad way to invest. You need to close your positions when they are losing and hold your positions when they are making you money.

“You will feel more pain from the loss of a dollar than you will feel happiness from the gain of that same dollar.”

It is much harder to take losses than it is to take winners. That is why many investors end up losing so much money. They can’t or won’t sell their losers. One of the first things you need to tell yourself is that it is “ok” to take a loss. If you can get good at taking losses, you will be much happier and a more successful investor.

The key is to only lose a small amount, while making a large amount on your winning trades. Remember, most people naturally choose the opposite of what they should be doing. They are risk takers when losing and risk adverse when winning. Conversely, successful traders are risk takers when winning and risk adverse when losing.

How much should you risk per trade? That is the key question with money management. Failure in the currency market is usually due to poor money management, not poor understanding of technical indicators. Learn how to protect your capital and you will be successful over the long run.

As new traders have a hot streak, they want to put more and more into each trade. The problem with this mentality is when they have a losing trade, they lose a lot. After they lose, they start trading with less money until they have some more success. Then, they begin to put more and more money in each trade, until they lose again. After doing this several times, they lose all their trading capital. This up and down way of managing money is not a successful formula. Consistent money management is the key.

Rules1: Diversify: Don’t keep more than 50 percent of your available money in the currency market at one time. The rest should be used for other potential investments.

Rule 2: Decide on Risk Level: How much are you willing to lose on any one trade. If you are willing to lose a maximum of $500, then $500 is your risk per trade. Depending on the size of your account you may choose to risk between one and five percent per trade. To begin, start with one percent and build up from there. Remember, this is not how much you are going to trade; it is how much you are going to risk. For example, if you are willing to risk two percent and you have an account size of $10,000, you would be willing to lose $200 per trade. Now, if you have a stop loss set at 20 pips, you could buy one lot. If each lot is worth $10 and you have a 20 pip stop loss, you would lose your maximum amount of $200 (20 x $10 = $200).

Risk Formula:

(Account size x risk %) / Stop loss $ amount = # contracts ($10,000 x 2%) / $200 = 1 contract ($200)/$200 = 1 contract

This formula uses a fixed percentage of you account size which is more effective than investing a fixed dollar amount.

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