One of the most important questions a trader can decide for himself is what his lot size will be? This, of course relates to the Stop Loss he places and basically comes to answer the fundamental question of how much he is willing to lose on a single trade.
The way the Forex market works is that even if you’re a total gambler, you still have a 50:50 chance of winning on each trade. Of course, you need to push that probability upwards as much as you can in order to make more money, but having this kind of odds also means more than for just 1 single trade.
The chances of losing on any particular trade, if you don’t put any though into it, is 50%. Losing 2 trades in a row is 0.5 times 0.5 = 0.25 or 25%. Losing 3 trades in a row the chances are even slimmer: 12.5% and so on and so on.
It is this mathematical process that can help you determine you lot size. A good rule of thumb would be to take your entire deposit and divide it to 20 equal sized lots. You can also choose to split it to 40 or 50 lots, but 20 is a good number.
You do this in order to make sure that even if you run across a bad streak of trades, you will never be wiped out entirely and be thrown out of the game.
To lose 20 trades straight, the chances are around a million to one. There’s practically no chance in a 50-50 split that you will lose 20 times in a row. This means that you will always live to trade another day and slowly but surely, you’ll be able to earn back any of the money that you lost.
Let’s say you have $10,000 to trade with. This means that your lot size for each trade will be $500 which is 1/20 of your entire trading sum.
On each trade you’re willing to lose $500 at the most. This determines where you place yout Stop Loss.
For instance, say you went long for 10,000 units on the EUR/USD pair. This means that you bought 10,000 Euros. Let’s say the price was 1.5 USD for every Euro. This means that every pips is worth $10.
If you’re only willing to risk $500 at the most, your Stop Loss will be placed 50 pips below the current market price at 1.4950.
This is how you determine your lot size.
