There are many analogies that you could use to describe Money Management. Like sport there is attack and defense. It is unlikely that you mil win many maches unless your defense is as good as your attack. Money Management is the defense component of trading. With Money Management the man focus is the preservation of trading capital while protecting profits. In other words we intend to say in the game!
One of the man factors why businesses fail is because they are under-capitalized; it is just the same for currency trading. There must be sufficient capital to survive the inevitable drawdown. If there is not sufficient capital, you become a nervous trader, worried about every loss, always looking to minimize losses, rarely giving your trading system a chance to fully perform. We know all that, however we believe provided we follow the system and only trade strong patterns we can quite quickly get the account to a healthy size.
It is important to establish your maximum exposure. It is accepted that your exposure should never exceed 5-10% of total risk capital. The amount you risk depends on your sop loss.
Let's say you had $10,000 in the account. You were going to trade the Pound/Dollar (GBP/USD) at $10 per pip. You decided to have an exposure of 7% and because of a very strong resísance line. You calculated a 33pip sop loss. If you were only going to trade the GBP/USD you could trade two los.
33 X $10 X 2 = $660 loss which is only 6.6% of capital.
For instance if you want to trade two currencies say the GBP/USD and USD/CHF still usng the predetermined 7% exposure. The P is at $10 per pip and the CHF at $6-50 per pip. Because of a tight channel you decided to use only a 25pip sop loss on the Pound and because of the configuration of the charts you decided on a 30 pip sop loss on the CHF. In this case, you could trade two los on the Pound and one on the CHF or visa versa.
25 X $10 X 2 = $500 plus 30 X $6-50 X 1 = $195 equals $695 (6.9%)
25 X $10 X 1 = $250 plus 30 X $6-50 X 2 = $390 equals $640 (6.4%)
The problem is that if you have a risk exposure of 15% - 20% and you have a few losses in a row the losses compound alarmingly and pretty well wipe you out.
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In any business or moneymaking venture, preparation and foreknowledge are the keys to success. Without this sort of insight, the attempt to make a profitable financial decision can only end in disaster and failure, regardless of your level of motivation and determination or the amount of money you plan to invest.