Money Management : A New Approach

Have you come across a trader who reported a large amount of profit from a relatively small account? Such stories are wide spread and often attract inexperienced trader’s attention.

Was it a Fluke? Perhaps just a stroke of luck. Anyone claiming outstanding gains overnight is probably exposing his trading account to enormous risk by trade large number of lots. It is only matter of time before huge losses would wipe out gains and beyond, leaving trader feel devastated financially and emotionally. Trust me, I know that from personal experience. Money management in Trading is a combination of specialized techniques and your trading judgment. Lets look further into it.

Calculating Right Trade Size / Lot:

Overexposing or underexposing your account can change the end result drastically and hence the first thing we need to do is to come up with the right size for our trades. Also remember that this is not a one time process, in fact it is an ongoing process because variables like account size, stop loss keep changing with time.

Before we can even look into the formula for successfully calculating the right trade size we need to agree one very important thing, Risk. So what should be the ideal risk per trade? Answer to this question would depend on the trader however most successful traders would recommend 2-3%. In my personal opinion you should not risk more than 3% per trade / Category.

Once you have made up your mind about the Risk % then calculate Risk in Dollars by multiplying the account size by Risk %. For Example if you have $10,000 account and willing to risk 3% then total risk in dollars is $300 ({10,000 x 3} / 100).

Next step is to determine the Stop Loss. Whatever trading system you are using, you would know by now what is your Stop Loss. Lets say your Stop Loss is 10.  Then your size is 30 shares per trade.

Also keep in mind that resulting Trade Size may not come out as whole number and may be a fraction. In that case always go down to whole number and never go up. For Example, If the resulting Trade Size is 14.72 shares then make it 14 and not 15.