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Correct Position Sizing is one of the most important parts of a successful trading strategy. Strangely, it is rarely included in the vast majority of trading software systems or even mentioned by trading gurus, so this material may be new to you!
Position Sizing uses a chosen percentage risk on each of your trades, so sizes the position to take account of the difference in the trade entry and initial protective stop levels for different trades. Different trades have different trade entries and different stop levels - sometimes the entry is close to the initial stop level, sometimes it is further away. If you always traded in a set number of lots (forex), shares (stocks) or contracts (futures), your initial risks between these different set-ups would vary. If your initial risk varies from trade to trade, it is impossible to keep your losses small and constant. The only way to achieve this is by the use of correct Position Sizing.
You will have heard of the phrase “keep your losses small and your profits large to succeed in trading”, but what this fails to address is exactly how to achieve it when you have different initial risks on different set-ups and across different markets. More importantly, this is the only way to get your profits to relate directly to your losses. This is vital if you are to achieve profits which are large in relation to your small losses.
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