Money And Risk Management In Forex Trading

Figure 20.4 High performance trading opportunity

21. Money and Risk Management Besides following a solid strategy, management of money and risk in Forex is the most important factor that determines the outcome of your trade. Management of money is about the portion of your equity (or balance) you risk on your open trades. In any case (except for optimal trading), you are not allowed to expose more than 3% of your equity to the market. Because of high risk of Forex trading (even with proven strategies), putting more than 1/30 of your equity (or balance) in the open trades increase the chance of fast drawdown of your equity and losing all your money.

Risk management in Forex is about taking measures to prevent big unaffordable losses. The simplest but most effective tool to control (or limit) your risk in a trade is

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setting a Stop Loss (SL). On the other side, setting a Take Profit (TP) target for your trade is highly recommended to guarantee your expected profit. Don’t underestimate the power of these simple tools in your trading. In fact, before entering any trade you are required to determine and set your stop loss and take profit targets. As soon as you do this you actually define a risk/reward ratio for your trade. For example if you set your stop loss 30 pips away from the entry price and set your take profit target 90 pips away from the entry price, your risk/reward ratio will be 1:3 or simply 3.

The safe threshold of risk/reward ratio to enter a trade is 2.

If your ratio is better or equal to 2 you are allowed to enter a trade. If not, I recommend you to avoid that trade. So, your last step after analyzing and confirming a trade opportunity is to calculate its risk/reward ratio. In spite of simplicity of deriving your risk/reward ratio from known stop loss and take profit prices, setting stop loss and take profit is a bit challenging. It demands some experience to realize the best places to put these two key risk management limits.

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As a general rule, try to set your stop loss maximum 10-15 pips away from local minima or maxima and all in all not more than 25-35 pips away from the entry price. To be more exact, according to my experience and automated trading simulations the optimal stop loss for AUD/USD, NZD/USD and EUR/GBP is 15-20 pips, EUR/USD, USD/JPY, USD/CHF and USD/CAD is 20-25 pips, GBP/USD is 25-30 pips and for EUR/ AUD, GBP/AUD and GBP/JPY is 30-35 pips away from trade entry price. However, if you faced with a situation that needed to put your stop loss farther than 35 pips away from

the trade entry price, it is a good sign that the optimal time to enter that trade has passed and it is better to ignore that trade.

Setting take profit target can also be challenging. Just like setting stop loss, this skill will be acquired by time but as a good technique, estimating the momentum of the price is very helpful to find the best take profit level. The chart pattern, the length of pins in pin bars and the distance of current price from moving average can help you to predict the momentum of price. Then to get assured that your profit target will be hit, set it at two/third way of the trade entry price from the first nearest support or resistance level (if you have concluded that the momentum will be small) or two/third way of the trade entry price from the second nearest support or resistance level (if you have concluded that the momentum will be large).

Figure 21.1 How to predict TP target using momentum signals

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The following pictures show you how set your best SL and TP targets and how calculate your risk/reward ratio.

Figure 21.2 How to manage your risk in Forex

Figure 21.3 How to manage your risk in Forex 76

What you read is a free sample of “The Ultimate Forex Trading System-Unbeatable Strategy to Place 92% Winning Trades.� From this book you will learn top 8 Forex trading strategies (92% winning rate), the best money and risk management method, high performance trading and the best advice to control your psychology during trades. All required tips to become a successful trader are included in this book.

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