Welcome to the world of money management, where everything is about rules. Money management in forex is not that hard when you know what to do. By the end of this article, you will understand what to do and what to avoid. If you are new in the Forex market, find the best broker in the world for you, by reading our Forex broker reviews.
Here’s a scenario that will show you why money management is such a big deal in the forex world. If you were to take two newbies, put them in front of a screen with a complete platform with all tools and a high probability setup, something predictable could happen.
You know what, you could even put them on opposite sides of the trade. Chances are, they would most likely end up losing all the money. Just to be clear, both of them would lose money.
Money management in forex doesn't stop at taking shots at noobs. If you were to take two pros and give them the same conditions, they would most likely end up making money, and we mean both of them.
It might seem like a contradiction of the premise, but, that's the difference between a newbie and a pro. The money management in forex does not work if you do not know what you are doing.
So, what is the Difference Between the Pair of Noobs and the Pros?
Well, that is what we are going to learn. You see, the pros have golden rules that they live by when it comes to money management in forex. It does not have to be that difficult for any trader. We have decided to compile the best golden rules that will ensure you can keep your money.
By the end of this, you will have learned more about money management in forex in a short article, than you would, from just observing and biding your time.
The Reality of Money Management in Forex
Like the way we diet and work out, money management in forex in the forex markets is something that a lot of people talk about. Few of them actually practice it in real life. Remember that a market is a risky place.
Without a minimization of the adverse effects, there is an excellent chance that you could end up losing money that you should not have lost.
We talk about money management in the forex a lot because we know that it can seem like a burden of sorts. It is not a pleasant activity. It takes work, and few people like to do it. You are always in constant alert mode. You have to monitor your positions and make some necessary losses.
No one likes to do that. However, you will find that money management is profitable in the long run. You will end up being sharper and better, and after a while, it won’t seem so much like work.
Let us show you how hard it can be to recover from losses, just to prove the point we want to make about money management.
As you can see, it is not easy. To return to the original equity value, a trader would need to earn 100% on their capital. That is a feat accomplished by less than 1% of all the traders in the world. Plus, that would just be a way for a trader to breakeven on an account that has a 50% loss.
When the loss goes up to 75%, you would need to quadruple your account, just to bring the account back to the original equity value.
The point here is that money management in forex is essential, and you should not ignore it at all.
The Golden Rules, With Which To Do Money Management
1. Make a Smart Deposit
You have often heard that a deposit of $50, $100 or $200 is enough to get you started. Yeah, do not be naïve. Only a handful of traders have the patience to have fun with small profits. The rest of the traders want to set the risks very high and expect a tenfold increase in the initial deposit that they make.
This is the perfect recipe for failure and loss beyond the scale of anything that you can imagine. Money management in forex is about never assuming you won’t lose. Make a smart deposit and ensure that you start small and then increase your stake over time. Make an intelligent deposit by estimating something manageable when you start.
2. Do Not Over-Leverage Your Deposit
If you were thinking about starting with a small deposit and then using a high leverage to make more money all at once, banish the thought. That is not what could happen. The leverage recommended by most, for an average, is 1:100.
Over-leveraging or overloading the deposit is a mistake that many rookies make. It might seem like a good idea, but you need to take the market in small bites. If you try to hurry your way to the top, the chances are, you will never get there. Money management in forex is about restraint sometimes.
3. Do Not Lose Track of Your Trades
Newbies in the forex markets often rush to make too many trades that are all open simultaneously. You will not only be placing pressure on yourself but will also be ensuring that you fail when the pressure gets to you and you fumble around.
If you have a single fixed loss, you could manage what you lose, instead of having many of them open. If the scenario becomes terrible for you and you start losing money, it could happen in a path that you will not be able to control or even manage properly.
4. Always Consider Risk Levels
You might think that your analyses are all good. However, no matter how good the analysis seems, you should always take care not to raise the lot too high. The aim might be to gain the maximum profit here but, you could just as quickly lose a lot of it.
The size preferred when it comes to risk levels is about 5% if the deposit you make. However, you will do well to limit it to 3% or 2%, just to stay safe. As you will find out, there is a lot to lose, if you do not take care not to raise your risk too high.
5. Stop-Loss is A Must, Not a Recommendation
We do not have a law prohibiting you from not using the stop-loss. However, we must insist that you have it. Money management is a lot easier if you have this incorporated into your trades.
You would be a fool to think that you can trade the forex market if you do not have this. You will surely deplete your deposit if you do not use the stop loss. Unexpected news happens and natural disasters too. Something can happen at any time to make you lose all your money.
Always protect the trades you make.
6. Have The Smart Profit/Loss Ratio
If you see a trade where the ratio of profits to losses is less than 1:2, avoid it. We recommend that you go for the trades where the ratio is 1:3. This means that a single profitable trade is capable of covering the loss from 3 trades that fail.
If you can cover your bases like this, you should be fine. Money management in forex can be easy if you want it to be easy. Try to gain as much as possible during any trade. Then, use that trade to over other trades if they all come out well, good for you.
If you get burned on three of them, you should be able to say you broke even, because of the one that did not burn out, covered the ones that did.
7. Do not Struggle At Trailing Stops
This is a method of trading that is available to all traders. It is better than breakeven, and it lets you fixate the profit at a preferable rate. In the case of an unrehearsed sideways trend, for example, you will want this in your corner.
Money management in forex works out well when you trade like this. It is also easy on the mind when you trade like this. Do not get caught unawares when anything unexpected happens. You can protect yourself in such a case.
8. When You Are Supposed To Sleep, Go To Sleep
Your biological clock is a factor when it comes to trading, and you will need to consider it too in you want to make it in the market. Money management depends on your retaining the cognitive abilities that make you good at spotting trends and avoiding mistakes that could costs you money.
Your brain works less effectively when you do not get enough sleep. That is the reason why you need plenty of rest. Do not overwork yourself. It is unlikely that you can monitor all your trades when your brain is not working at peak performance.
9. Forex is not a Casino
Do not ever forget that. This market is not about hitting the jackpot. Collect the small profits you get and then do it all over again. With time, you will get better and be able to net more. A successful trader prefers the hens he gets today, rather than the eggs tomorrow promises.
You can gain a considerable profit in small parts. Do not look to get the hen and the eggs today. If it happens, let it be some kind of lucky break. If you enter the forex market looking for huge profits all at once, you will fail. Money management in forex is also about practicing the virtues of patience and restraint.
10. Pick Appropriate Trading Instruments
Why would you trade gold if you have an account balance of like $300? The thing about being appropriate in your choice of instruments to trade is based on knowing what is wiser. There is a high chance you will drain your deposit before you even know what is happening.
You have to make sure that your skills are top-notch before you start experimenting with assets that are reserved for the pros. Not that you cannot do it. You can. It's just that everything is in a tier and if you are a low-level trader, learn your level and master it first.
PRO TIP: Avoid Looking for The Big One
If you have never heard of George Soros, you will. He is a legend in the forex markets, known for being the man who 'broke the Bank of England' and netted himself a cool $1 Billion in a day.
The fantasy has endured of traders looking for the ‘big one.’ As we said, this is a fantasy, and you will regret ever investing time and money into looking for something as mythical as the billion-dollar payday Soros had.
The reality for almost all of the traders who look for the big payday is that they toss out the golden rules of money management in forex and they end up with nothing.
It is not extraordinary to hear stories of people who invested and netted themselves a lot of money throughout 3, 4 or even 5 years and lost it all in a single day because they were looking for a big one.
Control your risk and avoid the fate that befalls the fools who think they are the geniuses of the market. Money management does not have to be that hard.
There is a lot to learn when it comes to money management. However, the one thing that we cannot forget is that we should always be smart about trades. As explained by Jack Schwager in his famous book 'Market Wizards', you should never risk more than 1% of your total equity on trade.
By risking just 1% on a trade, it makes you indifferent to any individual trade. You could lose 15 times in a row, and you would still have 85% of your equity left.
Money management in forex is not that hard. It all comes down to consistency and discipline. Like a child who learns not to touch hot things by touching them and getting burned, you could learn the hard way.
Or, you could just take these golden rules and practice them. If you are new to the world of forex trading, look through our forex broker reviews to find the best forex broker in the world to work with.