Forex trading without money management is gambling. Instead of concentrating on a long term profits from your investment, the focus is on a so-called “jackpot”. Without money management plan, forex trader is without protection and without any chance to be successful in a long run. What is exactly money management and how to optimize forex funds to get the best out of the investment?
When forex trader acknowledges the existence of risk, the use of money management comes naturally. Trading market is in control no matter how intelligent and experienced the trader is. There is always a chance of being mistaken.
Professional forex trader seeks to recognize an entry and exit strategy that has a high chance of winning. Experience increases the ability to analyze and see things clearer, however the market is still chaotic and full of surprises. It is important to accept the nature of forex market and avoid pitfalls though risk and money management.
The acceptance is not an easy task, since there is psychological aspect involved. The risk and money management lifts the ignorance veil off a trader’s face to see the possibility of losing. The reminder that things can go wrong has a negative impact on any trader and this is why a lot of traders choose not to focus on risk and money management.
Blissfully hoping for the trade to get better and anxiously waiting it out will only wipe your trading account clean; therefore consider money management a protection shield of your forex account funds. In case you find yourself in a losing situation, you will be able to get out before the loss becomes unbearable. Remember, that the only thing a forex trader really has control over are the losses. You can enter a trade prepared to lose a certain amount and ready to get out when things turn sideways.
While money management helps maximizing the profits with trailing stops, position size etc, risk management minimizes the possible losses with evaluation of forex market conditions, stop/loss orders, risk reward ratio etc. Here is a well-known forex axiom:
“Cut your losses short (aka risk management) and let your profits run (aka money management)”
Before entering any trade, figure out the acceptable loss. The acceptable amount is 3%, however a lot of traders don’t go over 1% and that is perfectly fine. Once you know the risk, adjust position sizing to market volatility in the traded timeframe. This way no matter what timeframe you use, the risk will always remain the same.
Successful forex traders know how to manage their risk. They accept chain of small losses, manage the open trades, differentiate position sizes between trades, include exit and entry rules etc. Money Management is helps a forex trader to preserve funds as long as possible. Using money management does not guarantee 100% success – it is not a magic wand. However, money management increases the possibility of success.
To summarize, here are couple of things you should remember:
1. Losses are as real as it gets and will happen to any of us. The less the risk in a trade, the less the maximum loss will be.
2. The bigger the mount lost, the harder it is to get it back to breakeven.
3. Risk no more than 3% of your account. Generally, the smaller the better.