The Novice Forex Trader Needs To Manage His Money Carefully
By: Donald Saunders | Posted: 28th August 2007
Before you begin to trade on the Forex it is vital that you make time to study the currency markets and that you start your Forex trading with a clear philosophy and a defined strategy. Then, once you start trading it is equally vital that you manage the funds available for trading with great care.
In addition to knowing which currencies to trade and being able to recognize entry and exit signals for trading, the successful Forex trader must be able to manage his financial resources and to incorporate sound money management into his trading plan.
There are a number of different strategies that can be applied when it comes to money management, but the majority of them will require you to keep a track of what is known as your core equity. Your core equity is defined as the sum that you start trading with less the money that you have in any open positions. So, if you start trading with $15,000 and have $1,500 in open positions then your core equity is $13,500.
As a general rule, when you first start out you should try to limit your risk to 1% to 3% of each trade. Thus if you are trading a standard Forex lot of $100,000 you should keep your risk to $1,000 to $3,000 and, to keep yourself safe, should ideally start at just $1,000. This can be achieved by placing a stop loss order 100 pips (1 pip = $10) above or below the position at you enter a trade.
Of course over time your core equity will rise or fall and you can merely adjust the dollar amount of your risk. Looking at our example above, with a starting balance of $15,000 and one position open, your core equity is $13,500. If you then add a second position, your core equity will drop to $12,000 and you should limit your risk accordingly.
Using the same principal, as your core equity increasesrises, you can also raise your level of risk. Accordingly, if trading is going well and you have made a profit of $5,000 your core equity will rise to $20,000 and you could raise your risk to $2,000 per transaction. Alternatively, you might also decide that you are going to risk more of any profit made than you are prepared to risk from your original opening capital. You might, as an example, risk up to 5% of any realized profits ($5,000 on a $100,000 lot) to give yourself a better potential for profit.
The secret to success in foreign currency trading relies on many different factors and one very important element of your trading strategy lies in your ability to tightly control and manage the money that you have available for trading.
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Tags: risk, philosophy, financial resources, money management, pip, currencies, forex trader, stop loss order, open positions, forex trading, currency markets, sound money