Capital Management
There is a huge number of money management methods when trading on Forex. From the stupidest "double the lot until we win it back" to abstruse theories based on the binomial distribution.
Personally, I use a fairly simple method, which I am going to tell you about.
To avoid misunderstanding, I will immediately mention that all calculations in the text are made in old pips.
So, here is the algorithm of actions for my money management method:
1. Decide which strategy or expert advisor we will trade with.
2. Conduct a historical test.
- If this is an expert advisor, run it in the strategy tester with a 0.1 lot. If you want to trade several experts at once, combine the results in the Report Manager program. What interests us in the testing report with a constant 0.1 lot is the Maximum Drawdown level in dollars. Since with a 0.1 lot 1 pip ≈ 1$, then our drawdown level in $ with a 0.1 lot will be approximately equal to the drawdown level in pips.
- If this is a strategy for manual trading, make "paper" trades on charts for past periods or use special programs for testing strategies, for example SimpleForexTester . You need to test, as in the case of expert advisors, with a constant 0.1 lot. Again, we are interested in the Maximum Drawdown level .
3. Knowing the level of maximum drawdown in pips for the strategy on historical data, we will be able to calculate our risk level. But first, the obtained drawdown figure in pips should be increased by 20 percent, - in case of errors in calculations, force majeure, etc. This is Forex, there is never 100% certainty here...
4. Next, determine what the minimum allowable trading lot size is on your account and how much 1 pip of price movement costs when trading with this very minimum lot.
Suppose you have a micro account with a minimum lot of 0.01 and 1 pip ≈ 0,1$.
Also suppose that earlier, during the historical test, you calculated the drawdown for your system and it does not exceed 80 pips. You added another 20 pips for an unforeseen case and got a possible drawdown level of 100 pips.
5. Now decide what part of the deposit you are ready to lose during drawdown. A part of the deposit in percent. Suppose a comfortable drawdown level for you is 30% of the deposit, and you do not want to lose more. Ok.
6. Well, and finally we move on to the final stage.
We know that the strategy drawdown is equal to 100 pips, the minimum lot on our account is 0.01 , 1 pip ≈ 0,1$ when trading the minimum lot, and we agree to a drawdown of 30% of the deposit.
First, we calculate the minimum required deposit level.
100 pips (our maximum drawdown) at a 0.01 lot will cost 10$.
Our comfortable loss level is 30%. If the drawdown at the minimum lot is 10$, then we take 10$ as 30% and calculate 100%
10$ = 30%
100% = 33,3$ ,which can be rounded to 35$.
So, 35$ is the minimum deposit for trading this strategy on our account type with a minimum lot of 0.01.
"What if I want to deposit a much larger amount?", you will ask. No problem. We will use 0.01 lot for every 35$ of deposit. Or 0.1 lot for every 350$ of balance for larger amounts.
"What should I do if the balance increases/decreases while trading?"
The same way. We trade 0.01 lot for every 35$ in the account. Suppose our balance was 70$, we traded with a 0.02 lot (70:35=2), made a profit and the account balance became 110$. 110:35 =3 (round down to whole numbers). This means that now with a balance of 110$ we will place a 0.03 lot. If our account suddenly decreases to 100 dollars, then we will again place a 0.02 lot.
This is very important.
Never increase the lot if your account is decreasing!!!
With such simple calculations, we have determined what trading lot we will place, how we will increase it and decrease it.
Just substitute your own numbers instead of those given as an example.
There is a huge number of methods of capital management when trading on Forex.