Now you have the strategies, you know how to analyze the market, you know when to buy, when to sell, and when to exit, you know also when to stay away from the market.
This is important for you as a trader to know, but you are still missing the key to the castle. The money management plan.
The most important thing that traders don’t talk about is the money management. This is what makes a difference between successful traders and losers.
If you trade without a money management plan, you are just wasting your time and money. Because nothing is going to work for you, even if you have the most powerful trading system in the world.
Most traders focus on how to enter the market, they spend months and years looking for the right system. I don’t want you to think like them, you should think differently if you want to become a successful trader.
Money management: Position sizing
One of the most important component of money management is position sizing, what i mean by position sizing is the number of lots you are risking per trade.
All forex brokers now offer mini lots as the default position size. The smallest value for a mini lot is approximately 1$.
There are forex brokers that offer 10 cents for a mini lot which represent an opportunity for traders who don’t have bigger accounts, they can begin with 250$, and they still have chance to grow it.
When it comes to position sizing, you should think in terms of dollars instead of pips. Let’s say you are trading 3 mini lots of CAD/USA, this means you bought or sold 30.000 worth of us dollars.
If the market moves in your favor, you will win an amount of money equal to 3$ per pip. If you make 20 pips, you would have profited 60$.
Let’s break it down, 1standard lot is worth about 10$ per pip. And 1mini lot is worth about 1$ per pip, and 1 micro lot is equal to 10 cents.
If you open a mini trading account, you should think in term of the dollars risked instead of pips.
Let’s say you put 50 pips stop loss and 100 pips as a profit target. This means that if the market hits your stop loss you will lose 50 pips which is 50$, and if the market hit the profit target, you will win 100$.
The size of your position depends on whether you have a standard or a mini account, and how many lots you are trading. This information is important to you because this will help you know how much money you risk on each trade.
The risk to reward ratio
The risk to reward ratio concept is what will make you a winner in the long run. Before you enter any trade, you have to know how much money you will win if the market goes in your favor, and how much money you will lose if the market goes against you.
Don’t never enter a trade in which the profit is less than the amount of money you risked.
If you will risk 100$ for example, your profit target should be at least 200$, this is a risk to reward ratio of 1:2.
Let’s suppose that you took 10 trades with 1:2 risks to reward ratio. In every trade you risk 100$.
You won 5 trades, and you lost 5 trades. So you will lose 500$, but you will win 1000$, so the benefits is 500$.
This is the power of the risk to reward ratio, you shouldn’t think that you have to win all your trades to become a successful trader. If you can take the advantage of the risk to reward ratio, you will always be profitable.