A huge amount of money management techniques exist for trading in the Forex. From the silliest (doubling the lot until recovering from losses) to the learned theories based on the binomial distribution.
I personally use a quite easy method about which I am going to tell you.
In order to avoid any misunderstanding let me note that all the calculations are made in “old points” (4 digits).
So, here is an algorithm of actions of my own money management method.
- We define a strategyor an expert advisor we are going to trade with.
- We make a test based on the historical data.
- If it is an expert advisor then we run it in the strategy testerwith the lot 0.1. If you want to trade with several EA at once then you should combine the results in the Report Manager. In the tasting report with the constant lot of 0.1 we are interested in a level of maximum drawdown in dollars. As with the lot of 0.1 1 point ≈ 1 $, so the level of drawdown in $ with the lot of 0.1 will be approximately equal to the level of the drawdown in points.
- If it is a strategy for manual trading then you should execute “paper” trades on the graphs based on the previous periods or you can use special software for tasting the strategies such as SimpleForexTester. Tasting should be done, as with the EA, with the constant lot 0.1. We are interested in a level of maximum drawdown again.
- 3. Taking into consideration the level of maximum drawdown in points for the strategy based on history, we can count the risk level. But, first of all, the obtained value of drawdown level in points should be increased by 20 percent, in case of calculation errors or force majeure etc. This is a Forex market, and there is no 100% certainty…
- 4. Then define the minimum allowable trading lot size on your account and how much is the 1 point movement price in trading with this minimum lot size.
Let’s assume you have a micro account with minimum lot of 0.01 where 1 point ≈ 0.1 $.
And let’s assume that during the history test you have calculated a drawdown on your system and it doesn’t exceed 80 points. Then you have also added 20 points for unexpected issues and have gotten the possible level of drawdown which is 100 points.
- 5. Now you should decide how much of the initial deposit you are ready to lose during drawdown. The part of deposit expressed in percentage. Let’s consider your comfortable level of drawdown is 30% of the deposit and you don’t want to lose more. Ok.
- 6. And eventually we are moving to the final stage.
We know that the drawdown based on strategy equals 100 points. A minimum lot on our account is 0.01, 1 point ≈ 0.1 $ in trading with a minimum lot, and we are agree with the drawdown of 30% of the deposit.
First of all we calculate the minimum level of deposit required.
100 points (our maximal drawdown) on lot 0.01 will be cost 10$.
Our comfortable level of losses is 30%. If the drawdown on minimum lot is 10$ then we take 10$ as 30% and calculate 100%
10$ = 30%
Then 100% = 33, 3$, which be rounded up to 35$.
So, 35 $ is the minimum deposit to trade with this strategy on our account type with the minimum lot of 0.01.
“But what if I want to have a much more deposit?”-you could ask. No problem. We can use 0.01 lot for every 35$ deposit. Or 0.1 lot for every 350$ deposit for large amount of money.
“What if during the trading process the balance increases/decreases?”
With the same logic. We trade 0.01 lot for every 35$. So, let’s consider our balance was 70$ and we traded with 0.02 lot (70:35=2), we received a profit and the balance increased up to 110$ . 110:35 =3 (rounding down to the nearest whole number). It means that now with the balance of 110$ we will trade with 0.03 lot. If suddenly our balance will decrease up to 100$ then we will trade with 0.02 lot again.
It is very important.
Never increase a lot if your account decreases!!!
Whit the help of simple calculations we have determined the optimal lot size and how to increase or decrease it.
Just insert your own numbers in the example mentioned above.
Sincerely yours, Pavel Vlasov