Position sizing & risk management is the part of trading system that tell us how many shares to buy / sell per trade. As we see below diagram 60% trading success come from your psychology, which is your mindset following the rules, 30% comes from your position sizing or risk management or money management and only 10% come from trading strategy which is using by you to entry and exit.
Why Position Sizing & Risk Management Is Important During Trade?
Most of the traders knows how to analyze market technically and fundamentally and entry and exit point, but they not able to earn money consistently only because they not sizing position in a right way.
Position Sizing Determine
- How many shares to go long / short for a particular trade
- It shows risk per trade and overall risk to your portfolio
- Finally it’s determine expected return to your portfolio
Position Sizing Calculating
- Calculate Your Capital (Net Liquidation) = Share + Cash Example: Rs. 100000 (Cash and Share)
- Determine Your Risk Per Trade.
- a) Risk refers to the maximum loss per trade. b) That is the maximum lose if your stop loss hit c) The loss should not more then 1% to 3% per trade of your capital or investment.
- Position Sizing Formula
Now SBI Position size is = Entry point (250) x No of Shares (100)= 25000. That means out of the 1 L Capital you are using 25K to buy SBI shares, But remember 25 K i not your risk, your risk is 1000 only. Position size is not your risk.
If you are using leverage from broker you would be not using 25k, its depend on broking house how many time they are giving.
Similarly if you buy or sell more the one position that means you are taking more percentage risk at the same time. So don’t take more the three position in a same time and it will be three percentage risk to entire capital.
5. Determine Expectancy & Expected return
Expectancy Per Trade = % Win x (Average Win) – % Loss x (Average Loss)
Suppose win rate is 50:50 =50% x (Average Win) – 50 % x (Average Loss)
Average Loss = 1% x 100000= 1000
Average Win = 2% x 100000= 2000
Expectancy per trade= (50% x 2000) – (50% x 1000)
= 500 Profit