A forex trader will utilize a set of procedures for managing the money in their trading account when using forex money management. Preserving trading capital is the fundamental tenet of forex money management. This does not imply that you will never lose trade in forex because it is not feasible. Forex money management seeks to cut trading losses to “manageable” levels. That means a trader can continue to make winning deals even after it ends in a loss.
Because all trading involves risks, the concepts of risk management and money management are intimately related. The definitions varied slightly, though. Risk management is anticipating and controlling all known risks, including seemingly unrelated items like maintaining a backup computer or internet connection. While for forex traders, money management is solely concerned with using your funds to increase your account balance without putting it in unnecessary danger.
Although there are ways to fine-tune a trading strategy to win more trades and lose less, this is rarely the primary cause of forex losses. The fundamental factor is frequently a lack of clear guidelines for money management. We shall now look at the tips in the review and ratings of CloseOption.
Best Forex Money Management Tips
Your chances of success in forex trading will significantly increase if you follow these five money management guidelines correctly. These guidelines can be modified to fit your trading style, but they should all be written down and read before each deal is executed.
- Using Position Sizing to Define Risk Per Trade
A trader should only risk a small portion of their account on every one trade, according to the theory. The “2 percent rule,” according to which a trader should risk only 2% of their account on each deal, is frequently advocated by trading gurus. For instance, the trader would risk 2,000 USD for every trade with a trading account of 100,000 USD. Depending on recent trading results, some traders will change the size of each trade. The anti-martingale money management strategy, for instance, reduces the size of the transaction in half whenever there is a trading loss and increases it proportionately if there is a trading gain.
You can never predict what will happen in the next transaction, or even the following ten trades, even with the best trading system and risk management technique. The forex trader should maintain the trade size reasonably small relative to the size of the trading account to reduce the danger of the following trade ending in a loss. Extending this same principle, the trader should also safeguard oneself from a string of unsuccessful trades by lowering the amount at risk to a level where even ten unsuccessful trades in a row won’t be too difficult to recover from.
- Establish an Overall Maximum Account Drawdown
What does a forex drawdown mean? A drawdown is a difference between the account value at its highest point during a specific period and the account value following a string of unsuccessful trades. A 5% drawdown, for instance, would occur if a trader had 10,000 USD in their account and lost 500 USD. (500 represents 5% of 10,000.) It is more difficult to restore the account balance with profitable trades the higher the downturn. Traders will decide on a maximum drawdown level based on the backtesting of their trading strategy. A trader might decide to set a maximum drawdown of 6 or 7%, for instance, if they tested their approach over 50 transactions and only ever encountered a drawdown of 6%. A trader would follow a money management rule to terminate some or all open deals to restore the balance of the account if, when trading on a live account, all open trades caused the account to fall by more than 7%.
- Give Each Trade a Risk-To-Reward Ratio
Is the ideal risk/reward ratio 2:1? A trader should strive to have winning deals that are on least twice as big as the losing trades, according to the general rule of thumb outlined in trading textbooks. The trader needs to win a third of their transactions to break even with this risk: reward ratio. Maintaining consistency in the risk-to-reward ratios chosen is crucial. A trader who selected a risk-to-reward ratio of 1:1 must win a larger percentage of deals (at least 6 out of 10) in order to be successful. A trader needs to win fewer transactions to break even if they use a risk-to-reward ratio of 3:1 (1 out of every 4 trades).
How to trade forex consistently? A trader must understand what to anticipate from their trading strategy to accomplish long-term profitable forex trading. The win: loss ratio and risk: reward ratio are two crucial and complementary parts.
- Plan your Trade Exit with a Stop Loss and take Profit Order
Using a take-profit order sets in the highest amount a trader can win, while using a stop-loss order locks in the highest amount a trader can lose in any one deal. The trader can ensure that they are intentionally in a situation that loses more money than anticipated by using these forex order kinds. Of course, utilizing stop losses has its drawbacks, the most annoying of which is when a stop loss is triggered only for the trade to reverse and hit the take profit level. Even though that experience could be bothersome, it is still important to maintain a stop loss to prevent situations where the price does not rapidly reverse and the account suffers an uncontrollable loss.
- Only Invest Money that you can Afford to Lose
Finally, the ability to make dispassionate decisions about handling a trading opportunity is a must for effective trading. A trader is more likely to make poor decisions and increase their chances of losing money if they “need” the transaction to succeed because they need the money for other things. By trading with money that wouldn’t negatively impact your way of life if you lost it, you can “hope for the best and prepare for the worst.”