Position size is the single most crucial element in your trading, more than a correct entry or a correct stop. More than any strategy or self-psychological control ability, position size can make or break your trading career. Therefore, don’t take it lightly because it is truly the “holy grail” of trading.

After trading for a couple of months on the demo account, and keeping a detailed journal, you should be able to know quite well the expectancy of your system.

You need to find out and have sound knowledge of the following ratios:

Average Risk/Reward Ratio – How much you normally risk to win how much, this number can be expressed as:

1:1 if, for example to win 10 pips you risk 10 pips

2:1 could be that to win 50 pips you risk 25

3:1 could be that to win 90 pips you risk 30

And so on

1:2 will be that you risk 40 pips to make 20 pips

The next important number to take into account is the percentage of winning trades. You could be winning only 60% of your trades, or even 30%, and still be successful. To win in the forex markets it doesn’t mean that you win all the individual trades, maybe even lose most of them, and in some systems, you can mostly lose in a per-trade basis and still be making a decent amount of money.

Once you have your winning rate and your Average Risk/Reward Ratio, you can calculate how big your position should be, depending on your risk tolerance, it has to be a number that is coherent with your risk/reward ratio and your winning ratio.

Let’s assume that you know your system is right 60% of the times and your risk/reward is 2:1, meaning that you normally risk 20 pips to gain 40 pips. In other words, for every 100 trades, you will win in average 240 pips and lose 80, leaving you with around 1,600 pips.

Now let’s explore different scenarios on how big your position size could be. Let’s say you have a $10,000 account and decide to risk 1% per every trade. This will mean that 20 pips should account for 1% of your total account, in this case $100, so your position size has to be $50,000. So normally you would risk 1%, or $100, to make $200. After a whole round of 100 trades, you should have gained $8,000 if you kept your risk locked in at 1% of $10,000.

By using a trading journal, you’ll have an idea on how long you will take to make these 100 trades. If, for example, you are scalping 50 trades a month, this means that on average you will be making 40% of capital gains every month. If you’re scalping, you should take into account commissions and spreads because they will impact your account too.

You also have to be aware that you could go on a losing streak a few trades in a row (in your detailed journal you must figure out what was your worst losing streak and take it as a standard possibility). If, for example, you had 6 losing trades in a row, that will leave you suddenly with -120 pips. Your position sizing should be reasonable to this fact, so your account doesn’t suffer a dramatic loss from a normal event in your system.

With a $10,000 account and risk of 1%, you can find yourself with -$600 and because of your 2:1 ratio, you’ll also know that with 3 winning trades you can get back your losses. 1% to lose $600 from $10k is not very pleasant but far from catastrophic.

Depending on your expectancy rates and your personal tolerance to risk, you can tweak this number to whatever suits you best. With that said, risking more than 5% in every trade is generally considered dangerous. Let’s say you have this 6 losing trades in a row, or even a 10-in-a-row event, that can maybe happen every 1 or 2 years in the normal life of your system. If you are risking 5%, or $500 in your $10,000 account, you will find yourself with only $5,000, and loss of 50% of your capital. That starts to be catastrophic. On the other hand, if you are risking only 1%, you will sit on a -$1,000 loss. It will be tough to make it back, but it shouldn’t be a problem after a few weeks of focused trading.

Yes, it sounds compelling to risk a big amount, especially if you are on a winning streak. You could easily double your account in a few weeks, but take in account that your system also has losing streaks into which you will certainly fall to. Don’t let them be the end of your trading career.

Sometimes your system is not set in exact stops, but it’s different in every case because you put your stop above some event like a recent high or a resistance level. In that case, you only need to calculate your position size according to that stop.

For example: if you want to risk 1% of $10k, or $100 and your stop is set to 44 pips, then 44 pips should equal $100 or 100/44 x 10,000 = $22,727. Depending on your broker, sometimes you can’t trade such an exact position. Thus, you can use what’s closer, in this case $22k or $23k.

If you are risking 2% of your $10k account, or $200 in this case, your formula will be 200/44 x 10,000 = 45,454

The formula will be:

Your risk amount in $ / the amount of pips your stop is set to x 10,000