September 07, 2017
Position sizing refers to the size of the position you’re trading, in lots. While one standard lot equals to a position worth $100,000, some brokers also offer mini lots ($10,000) and micro lots ($1,000) to trade. Note that this doesn’t refer to the size of your trading account, but to the position size in trading. Trading $100,000 on leverage still represents a standard lot size.
Your risk management rules will determine what position size to use. But, your account denomination will also affect your position size. To make this clearer, let’s go through some examples with different account denominations.
Your Account Denomination is the Same as the Counter Currency
Let’s say you opened a trading account in US dollars with a broker, and deposited $2,000. If you don’t want to risk more than 2% of your account per trade, how would you determine which position size to use?
First, you need to determine how many pips you’re going to risk on a particular trade, i.e. your stop-loss level. Let’s say you want to enter a high-probability trade with a stop-loss of 40 pips.
To calculate your position size, do the following:
- Specify how much you want to risk per trade according to your risk management. In our example, 2% of $2,000 is $40.
- Next you need to find out is what pip value equals to the amount you want to risk, based on your stop-loss level. To do so, divide the amount risked with the stop-loss ($40 / 40 pips = $1 per pip)
- In the end, multiply the value per pip by a known unit/pip value ratio of EUR/USD. For example, a standard lot position size ($100,000) has a pip value of $10.
$1 per pip x ($100,000 / $10 per pip) = 10,000 units of EUR/USD
This gives us the correct position size you should use: 10,000 units of EUR/USD, or 0.1 lots.
Your Account Denomination is in the Same Currency as the Base Currency
This calculation is a little bit different than our previous example. Let’s say, you open an account with a European broker and deposit 2,000 EUR in your account. Assuming your risk per trade is still 2% of account size, and your trade setup on EUR/USD shows that a 40 pips stop-loss is appropriate, you would calculate your position size as follows.
- Your risk per trade equals now 40 EUR (2% of 2,000 EUR)
- Now, we introduce a new step – we need to calculate what your risk per trade is expressed in US dollars (because the value of a currency pair is based on the counter currency). If the current exchange rate of EUR/USD is 1.2500, your risk per trade expressed in USD is $50 (40 EUR x 1.2500).
- The remaining steps are the same. Your appropriate pip value based on your stop-loss of 40 pips is $1.25 ($50 / 40 pips).
- In the end, multiply your pip value with a known unit-to-pip ratio. $1.25 x ($100,000 / $10 per pip) = 12,500 units of EUR/USD.
Now, your adequate position size is 12,500 units of EUR/USD, or 0.125 lots.
Your Account Denomination is Different from the Base and Counter Currency
The third example we will cover is how to calculate your position size if your account denomination is different from both the base and counter currency. Let’s say, your account is denominated in US dollar, and you want to trade EUR/GBP. Here are the steps to calculate your position size, assuming all numbers regarding your risk stay the same as in the previous examples.
First, you need to express your risk in the counter currency, i.e. GBP. If your risk per trade is $40, and the current GBP/USD exchange rate is 1.30, your risk in pounds would be 30.77 GBP.
- Next, divide the risked amount by your 40 pips stop-loss, to get the pip value. This is 0.77 GBP (30.77 GBP / 40 pips)
- And finally, multiply your pip value by a known unit-to-pip ratio. 0.77 GBP x (100,000 of EUR/GBP / 10 GBP per pip) = 7,700 units of EUR/GBP.
Your position size for this trade should be 7,700 units of EUR/GBP, or 0.077 lots, to maintain your preferred risk per trade.