Understanding The Coin Management Inward Trading

I've e'er emphasized the importance of the MM inward Forex, inward my articles. Yet, many people failed to empathise it properly.

Therefore I volition accept it, again, footstep past times footstep from the basic theory.

Currencies Rates

The currency Rate is the value of i currency expressed inward terms of another.

Common rates tin live seen as: EURUSD = 1.3025

This tin live read every bit 1 EUR = USD 1.3025

The starting fourth dimension currency (EUR inward our example) is the "Base currency" too the minute i (USD inward our example) is the "Quote currency".

Bid too Ask prices

EURUSD = 1.3025/1.3027
The starting fourth dimension charge per unit of measurement (1.3025) is the "Bid" too the minute i (1.3027) is the "Ask"(Offer).

If you lot desire to "Buy" the "Base currency" (EUR) too "Sell" the "Quote currency" (USD), you lot volition purpose the "Ask" price.

If you lot desire to "Sell" the "Base currency" (EUR) too "Buy" the "Quote currency" (USD), you lot volition purpose the "Bid" price.

The departure betwixt Bid too Ask is called Spread (in our illustration spread = two pips).

Pip

Pip = The smallest cost motility on a currency. Also known every bit a "Tick size".
e.g. 1 pip = 0.0001 for EUR/USD, too 0.01 for USD/JPY.


Leverage & Margin

Leverage = multiplying component that allow you lot to merchandise to a greater extent than coin than you lot receive got into your account.
Margin = the amount of money, necessary to opened upwards a trade

E.q:
Leverage 1:50   = 1/  50x100 = 2% Margin (requirement)
Leverage 1:100 = 1/100x100 = 1% Margin (requirement)
Leverage 1:200 = 1/200x100 = 0.5% Margin (requirement)

So let's tell you lot desire to merchandise $100,000. By using a Leverage of 1:100, that agency you lot volition require a margin of simply $1,000 (1%).

Trading using the Leverage powerfulness move inward your favor if you lot are right, but tin besides accept you lot to the bankruptcy, if the merchandise goes against you.

Here is an example:

Trader 1 receive got Initial Account residuum = $3,000
Trader two receive got Initial Account residuum = $10,000
Trader1 purpose every bit Leverage = 1:200 = 0.5% Margin = $500
Trader1 purpose every bit Leverage = 1:50 = two % Margin = $2000

Trader1 too Trader 2, desire to purchase $100,000, each.

Scenario 1:
Lets tell both traders are correct too their merchandise move inward their favor alongside +100p = + $1,000

For trader 1 = +33.3% from Account Balance
While for Trader2 = +10% from Account Balance

Scenario 2:
Lets tell their merchandise went against them alongside -100 pips = -$1,000 from the Initial Account Balance.

For trader 1 = -33.3% from Account Balance
While for Trader2 = -10% from Account Balance

Conclusion:
Even if for to a greater extent than or less traders looks to a greater extent than profitable to purpose higher Leverage, due to their modest accounts, if their trades move against them, this volition ruin their account. Ofcourse they powerfulness live tempted to purpose a high Leverage (smaller Margin) thus they tin merchandise a much higher volume.

Lot size

In Forex, nosotros dont purpose Base currencies for the merchandise volumes. We purpose Lots.

1 Lot = 100,000 units (full Lot)
0.1 Lot = 10,000 units (mini-lot)
0.01 Lot = 1,000 units (micro-lot)

In our previous illustration is obvious that if the merchandise move against you, too you lot traded a huge volume, the loss is highly important, every bit the expected profit.

Trader 1 receive got three potential negative trades until he volition ruin only his account. While Trader2, tin afford 10 trades, for that.

You know what they say: "A rich human is a human who tin hold out longer, without having anymore income". Same every bit inward trading. It doesn't affair how much you lot tin delineate out of a trade, but how many negative trades you lot tin accept too notwithstanding live inward the market.

Risk/Reward Ratio

Also known every bit R:R ratio, it agency the ratio betwixt expected profits too potential losses.
I don't recommend a R:R lower than 1:3. That agency for whatever loss you lot powerfulness have, you lot must accept at to the lowest degree (minimum) three times to a greater extent than from the profitable trades.

TP = three x SL

This isnt a random number. This is related to whatever strategy statistic.
You all know, that you lot can't receive got profitable trades, only. So your strategy statistic tin live from 5-9/10 trades inward profit:

• min 5/10 since you lot tin receive got two selection on whatever market: purchase too sell. So you lot tin receive got 50-50% to live correct on whatever trade. 
• max 9/10 since you lot cant live correct all the time.

So, inward gild to achieve your profitable trades, you lot must live able (afford) to accept those losses.

Ofcourse, I prefer to purpose a much to a greater extent than pregnant statistic for whatever strategy, similar x/100 trades. Because this offering me a ameliorate agreement of the strategy on a longer catamenia of time.
Imagine a 9/10 strategy powerfulness live less than 90/100 on a longer catamenia of fourth dimension (and trades).
What if those 10 negative trades volition come, inward raw, piece starting to merchandise that strategy ?

Well, you lot must live prepared for that, every bit well. You require to notwithstanding live inward the market, when those profitable trades volition come.

Money Management

I'm certain you lot all heard virtually "Money Management Rules". But what is this actually means?

Well, you lot tin consider it a "healthy" way to live inward the marketplace longer. Or how much negative trades you lot tin take, inward the worst illustration scenario.

For doing that you lot require to live able to calculate two psyche things: Volume (as no of lots) too Stop Loss (in pips) for your trades.

I wont educate hither the calculations behind the mathematical probabilities of a strategy. All you lot require to know is that you lot should purpose these numbers, every bit beginner:

Max Risk/Trade = 2%
Max Investment = 15%

(take every bit illustration our previous exercise for the Trader1)

Example of MM Rules:

Account Balance = $10,000
Max Investment = 15% = $1,500
Risk = 2% = $200
Leverage = 1:100
EURUSD = 1.3025

How many lots tin you lot trade?

1.0 lot = 100,000 EUR => Margin =1%=1,000 EUR =$1,302 (1000 EUR x 1.3025)
0.1 lot = 10,000 EUR => Margin =1%=100 EUR =$130
0.01 lot = 1,000 EUR => Margin =1%=10 EUR =$13,02

Lot size = Max Investment / Margin

Lot size = $1,500 / $1,302 = 1.15 lots (round it to 1.1 lots)

How much pips you lot tin afford to lose ? (Stop Loss)
First nosotros require to abide by out the pip value.

1 pip = lot size x tick size
( for Direct rates as: EUR/USD, GBP/USD, AUD/USD, NZD/USD )

1 pip = pip = lot size x tick size / electrical flow charge per unit of measurement
( for Indirect rates as: USD/JPY, USD/CHF, USD/CAD )

1 pip = lot size x tick size x base of operations quote / electrical flow charge per unit of measurement
( for Cross rates every bit GBP/JPY, EUR/JPY, AUD/JPY, EUR/GBP, GBP/CHF - where USD is non involved )

Examples past times using the touchstone formula:
EURUSD = 100,000 x 0.0001 = $10
USDCHF = 100,000 x 0.0001 = 10 CHF
USDJPY = 100,000 x 0.01 = G JPY

Then purpose these results vs your trouble organisation human relationship currency rate, to abide by the pip value into your trouble organisation human relationship currency! (in our illustration inward USD)

Or purpose instead the other two formulas too and thus denominate these $ results alongside your trouble organisation human relationship currency vs USD rate.

E.q 1:
1 pip = lot size x tick size / electrical flow charge per unit of measurement
( for Indirect rates as: USD/JPY, USD/CHF, USD/CAD)

For a merchandise of 10,000 USDCHF (0.1 lots):
USDCHF = 0.9290

1 pip = 10,000 (lot size) x 0.0001 (tick size) / 0.9290 (current rate) = $ 1.07


E.q2:
1 pip = lot size x tick size x base of operations quote / electrical flow charge per unit of measurement
( for Cross rates every bit GBP/JPY, EUR/JPY, AUD/JPY, EUR/GBP, GBP/CHF

For a merchandise of 10,000 EURJPY (0.1 lots):
EURJPY = 121.35 too EURUSD = 1.3060

1 pip = 10,000 (lot size) x 0.01 (tick size) x 1.3060 (EUR/USD base of operations quote) / 121.35 (current rate) =  1.07 $

Now, let's larn dorsum to our exercise example:

Pip Value for 1.0 lot = $10

Pip Value for 0.1 lot = $1

Pip Value for 0.01 lot = $0.1

If the max Risk/trade = 2% = $200 too the pip value = $10

SL = $200/$10 = 20p / 1.0 lots
SL = $200/$1 = 200p / 0.1 lots
SL = $200/$0.1 = 2000p / 0.01 lots

So, inward this illustration you lot tin merchandise 1.10 lots.  The SL= 20p at this volume.

But if you lot desire to purpose require a higher SL grade for a trade, piece keeping the same Money Management Rules, you lot tin purpose smaller lot size ( mini-lots/micro-lots).

Eq1:
If you lot desire to opened upwards three trades alongside 0.1 mini-lots/trade:
200p/3= 66p/trade (for each i of these 3x0.1 lots trades)

Eq2:
If you lot desire to opened upwards v trades alongside 0.01 micro-lots/trade:
2000p/5= 400p/trade (for each i of these 5x0.01 lots trades)

But what if you lot establish a potential merchandise too you lot know the SL grade ? How many lots tin you use for that merchandise ? ( this volition live the only i opened trade, until is closed)

Lets tell the SL = 90p needed for that trade.
This is how you lot tin calculate the lot size according to your Money Management Rules:

Lot Size = Risk Amount* (in $) / Number of Pips x Pip Value
orLot size = (Capital x Risk%) / (Stop Loss inward Pips x Pip Value)
*After each merchandise calculate the Risk Amount in i lawsuit to a greater extent than or at to the lowest degree 1 time/week

Lot size = $200/90p x $10= $200 / $900 = 0.22 lots (for this merchandise example)
or
Lot size = ($10,000 x 0.02)/(90p x $10) = $200 / $900 = 0.22 lots = 2.2 mini-lots = 22 micro-lots
(when Actual Account Balance is different, than Initial - nosotros must calculate in i lawsuit to a greater extent than the Risk Amount)


Best Regards,
^^_Lord_Ice_^^