Volatile Markets Yield Better Results: The Correct Position Sizing
Hello, traders. Welcome to the Pro Trading course and the fourth module Day Trades and Short-Term Trades.
Volatile markets can yield better results. But the reason we are going to go through this lesson is because you need to know how to calculate the correct position size, because if you are trading, let’s say, with 1.2 lots on the euro/U.S. dollar and you decide to take a trade on the pound/Aussie, for example, you are not going to be trading with the same position size, because the GBP/Aussie is much more volatile, which means that your stops are going to be wider.
So position size is the most important thing a professional trader needs to understand, because you can’t always pick the same position size. And when we’re talking about position size, we are talking about capital preservation, and we are talking about risk management, all right? We are going try to understand this once and for all. We can’t trade the same position size every single time. We need to calculate every single trade that we take, because sometimes we’re going to have a 50-pip stop loss, and sometimes we’re going to have a 100-pip stop loss, all right?
And if you have a 50-pip stop loss trade in one lot, you’re going to risk $500.00. And if that is 2% of your account, you’d take a 100 stop loss trade, and you trade with one lot, then you are going to be risking $1,000, which will mean that you will be risking 4% of your account. And this is crucial. Capital preservation is the key to successful trading.
In more volatile markets, your stops will be wider. That’s why your position size needs to be smaller to always have the same risk per trade. So the position size is calculated this way. You take your account size, and then you multiply it by your risk per trade. And you divide it by the pips you are going to be risking on that trade. And then you divide the whole thing by the pip value per standard lot. It’s that simple.
So we are going to get an example right now. Let’s say that we have a $10,000 account and want to risk 2% on a euro/U.S. dollar trade with a 45-pip stop loss. That means that our position size is equal to $10,000, I’m sorry, times 2%, divided by 45, and the whole thing divided by 10, because the pip value per standard lot on the euro/U.S. dollar is $10. Then the position size will be 200 divided by 45, and the result divided by 10. This gives you a result of 0.57, which means that the correct position size for that trade is 0.57 lots, okay? You are going to be doing this every single day, every single time you trade, because it is important that you always risk the same percentage of your account. If you wanna risk 2%, that’s fine. And if you want to risk less, well, you need to calculate that with a lesser risk. On your account, let’s say that you want to risk 1% of your account, then this would be 0.01.
Now, let’s go to the charts and I am going to show you how to do it live. Right now, we are looking at the GBP/Aussie. And this is what I wanted you guys to look at. This is the GBP/Aussie, and we have an ADR of 206. This means that we have a daily range of 206. And today, this currency pair moved 210 pips, which is a lot. This is a monster. This is, along with the pound/yen, are the two monsters that I like to trade myself.
Now, I have the monthly highs and the weekly highs because I also wanted to show you how wide those ranges are. We have a 400-pip range on a monthly basis. Or this month, this currency pair has moved 400 pips. And this week alone, the currency pair has moved about 300 pips, okay? So when you are trading this kind of currency pairs, you are going to have wider stop losses.
And let’s say that we want to take a long position right here at the weekly low. Let me just get a read of the weekly high/weekly low indicator. And let’s say that we wanna go long right here, okay? We are not blindly going to trade one lot, but we are going to calculate the stop loss. Our stop loss can go either below this low. But I think for a better stop loss, you can go all the way above the monthly range on a long position. This would mean that you are risking, on this trade alone, 95 pips, all right? So we are risking 95 pips on this stop loss, okay? We are going long right here, and we are risking 95 pips. Let’s say that we have an equity of $15,899 at the time of the trade, and for your information, the value for one pip on one standard lot on the GBP/Aussie, it’s $7.68. Most major currency pairs have a pip value of $10. But if you go to the minors and exotic currency pairs, the pip value is going to change a little. And this is why you can’t have the same pip value of $10 every time you calculate the position size.
Now, we’re going to calculate this position size right now, and we are going to do it by using the, well, the formula that we just learned on this slide. And we are going to be risking 2% of the equity on this trade. And this will mean that our position size is equal to $317.98 divided by 95 pips divided by $7.68. This gives us a position size of 0.44 standard lots on the GBP/Aussie, which is exactly what we are going to trade right now. We are going to buy 0.44. Let me just move this horizontal line. Let me eliminate it, actually. And if we drag the stop loss, you are going to see that we are, in fact, risking $319, which is around our 2% that we calculated with the formula that we just learned on the slides. This is how you are going to be calculating your position size. And it’s important for you to do it because you need to always reach the same percentage of your account. And it doesn’t matter if your account goes up or goes down. The risk percentage must be the same, because that’s how you’re going to make your account grow.