The Importance of Position Sizing in Conjunction with Stop Loss Orders

Posted on 2023-05-11

Position sizing and stop loss orders are two essential risk management tools that forex traders use to protect their accounts from excessive losses. Position sizing is the process of determining the appropriate amount of capital to allocate to each trade based on the trader's risk tolerance and the size of their trading account. Stop loss orders, on the other hand, are instructions to close a trade automatically when the market moves against the trader's position to a specified price level.

While both tools are crucial for managing risk, they work best when used together. Position sizing helps traders manage the risk of individual trades by limiting the amount of capital that is at risk. Stop loss orders provide an additional layer of protection by automatically closing a trade if the market moves against the trader's position beyond a certain point.

Here are some best practices for using position sizing and stop loss orders together:

  1. Calculate position size based on risk: The amount of capital that a trader allocates to each trade should be determined based on their risk tolerance and the size of their trading account. A common rule of thumb is to risk no more than 1% to 2% of the account balance on any single trade.
  2. Place stop loss orders at a strategic price level: The placement of a stop loss order is critical to managing risk. Traders should place the stop loss order at a price level that represents a significant technical or fundamental level of support or resistance. This ensures that the stop loss order is not triggered by normal market volatility.
  3. Adjust stop loss orders as the trade progresses: Traders should adjust their stop loss orders as the trade progresses to lock in profits and limit losses. One approach is to move the stop loss order to breakeven once the trade has moved in the trader's favor by a predetermined amount.
  4. Use trailing stop loss orders: Trailing stop loss orders are a type of stop loss order that adjusts automatically as the trade moves in the trader's favor. This allows the trader to capture profits while limiting losses if the market turns against the position.
  5. Monitor risk exposure: Traders should monitor their overall risk exposure across all open positions. If the total risk exposure exceeds the trader's risk tolerance, they may need to adjust their position sizing or close some trades to reduce their risk exposure.

By using position sizing and stop loss orders together, traders can manage their risk effectively and protect their accounts from excessive losses. However, it's important to remember that no risk management strategy can eliminate risk entirely, and traders should always be prepared for the possibility of losses.

Looking to learn about forex? Take our crash courses at our Forex University. If you’re looking to setup a demo trading account then click here. Finally, if you’re looking for Forex Signals, Forex Portugal provides free & premium signals on-demand.

Found this article helpful?

[ 0 Out of 0 Found Helpful ]

Still no luck? we can help!

Submit a ticket and we’ll get back to you as soon as possible.

Support Chat Available
Account login is required to start, please login to your account to proceed.