Forex trading management is of paramount importance. Currency trading is not a game of chance, so a trader can and should control risk, monitor cash flow, and regularly review their strategies. In forex trading, where prices change rapidly, money management becomes the most useful tool. This FXOpen article discusses some popular forex money management strategies you need to know about.
What Is Money Management in Forex?
Forex money management refers to a set of principles, strategies, and techniques used by traders to effectively manage capital when working on the foreign exchange market. Money management in trading is interconnected with risk management.
Money management for traders is not just about preserving your capital; it’s about the possibility to maximise your returns and minimise risks. It’s the framework that separates successful traders from the rest.
Money Management in Trading
Without money and risk management, a trader is like a sailor navigating dangerous waters without a compass. To help you find a way to preserve capital, below there’s a list of the most widely used strategies.
Calculating Position Sizes
One of the most popular forex money management strategies is determining position sizes. This involves sizing each trade according to your trading capital and risk tolerance. It helps ensure that a single losing trade does not significantly drain your trading account. Let’s take a look at the most common methods.
Fixed lot sizes. With this approach, you trade a set number of lots or units for every position. This provides consistency, as each trade carries the same position size. Fixed lot sizes also allow for precise control over the monetary risk. However, this model may not adapt well to changes in market conditions and your capital.
Percentage-based position sizing. This approach allows you to adjust your position size depending on the size of your trading account or the amount you are willing to risk on each trade. The position size can grow with the account and shrink during drawdowns. This helps you maintain a constant level of risk in different trades. However, the calculations require more mathematical effort than with fixed lot sizes.
Volatility-based position sizing. Here, the size of positions is adjusted depending on the level of volatility in the market. If volatility is high, a trader might trade smaller positions, and if it is low, a trader might trade larger positions. This model aims to limit risk during times of elevated market uncertainty. However, the approach is complex and requires the monitoring and analysis of market changes.
Risk-based position sizing models. Such models are designed to match the position size to your defined risk tolerance. You specify the maximum amount you are willing to risk on a trade, and the model calculates the position size accordingly. This approach prevents trades from having a disproportionate impact on the overall account balance. However, in risk-based models, the position size may not adapt to different levels of market volatility.
Setting Stop-Loss Orders
A stop-loss order is a predefined price level at which you decide to exit a trade. It helps you maintain discipline and avoid emotionally driven decisions. By setting a stop-loss order, you protect your trading capital — it acts as a safety net, ensuring that you don’t incur losses beyond the predetermined level.
Placing stop-loss orders at the right levels is a skill that can significantly impact trading results. Here are some techniques:
1. You can use technical analysis tools, such as support and resistance levels, trend lines, and chart patterns, to identify logical places for stop-loss orders.
2. You can adjust your stop-loss levels based on the volatility of the currency pair you’re trading. In highly volatile markets, wider stops help to account for price fluctuations, while in calmer markets, tighter stops may be appropriate.
3. You can analyse multiple time frames to gain a comprehensive view of the market. This helps identify both short-term and long-term support and resistance levels for placing stop-loss orders.
4. You can consider using trailing stop-loss orders, which automatically adjust as the trade moves in your favour. They allow you to lock in profits while letting a winning trade run, reducing the risk of prematurely exiting a profitable trade.
Thanks to technical advancement, there are now many online tools that can help you in trading. For example, using a forex true money management calculator, traders can accurately determine their position sizes and risk levels and enhance their trading strategies.
In forex, diversification is a key money management strategy that involves spreading your investments across different currency pairs. The goal is to reduce the impact of a poor-performing asset on your overall portfolio and increase the chances of achieving consistent returns.
Traders combine major, minor, and exotic currency pairs to spread risk. Majors are known for their liquidity and stability, while minors and exotics often offer unique opportunities. You can also explore other asset classes, for instance, stocks, indices, cryptocurrencies*, or commodities and trade their CFDs at FXOpen.
Understanding how different assets are correlated with one another is crucial for effective diversification. Asset correlations indicate how two or more assets move against each other. There are positive and negative correlations.
- A positive correlation is when two assets move in the same direction. For example, if EUR/USD and GBP/USD have a positive correlation, they tend to move up and down together.
- A negative correlation is when two assets move in opposite directions. If USD/JPY and AUD/CAD have a negative correlation, when USD/JPY rises, AUD/CAD tends to fall, and vice versa.
Correlation coefficients range from -1 to 1, indicating the strength and direction of correlation. It’s a good idea to use historical data and statistical tools to measure correlations between currency pairs and other assets. On the TickTrader platform, you can find useful charts with historical currency pair quotes.
Your performance in the forex market is not only determined by forecasting price movements. It largely depends on the ability to manage money, reduce risks, and preserve capital. By applying the strategies and principles discussed above, you will be able to confidently and competently navigate the forex market. You can open an FXOpen account to test these strategies and techniques.
*At FXOpen UK and FXOpen AU, Cryptocurrency CFDs are only available for trading by those clients categorised as Professional clients under FCA Rules and Professional clients under ASIC Rules, respectively. They are not available for trading by Retail clients.
This article represents the opinion of the Companies operating under the FXOpen brand only. It is not to be construed as an offer, solicitation, or recommendation with respect to products and services provided by the Companies operating under the FXOpen brand, nor is it to be considered financial advice.