Forex 2 percent rule

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Why Day Traders Should Stick to the 1-Percent Risk Rule

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Career day traders use a risk-management method called the 1-percent risk rule, or vary it slightly to fit their trading methods. Adherence to the rule keeps capital losses to a minimum when a trader has an off day or experiences harsh market conditions, while still allowing for great monthly returns or income. The 1-percent risk rule makes sense for many reasons, and you can benefit from understanding and using it as part of your trading strategy.

The 1-Percent Risk Rule

Following the rule means you never risk more than 1 percent of your account value on a single trade. That doesn’t mean that if you have a $30,000 trading account, you can only buy $300 worth of stock, which would be 1 percent of $30,000.

You can use all of your capital on a single trade, or even more if you utilize leverage. Implementing the 1-percent risk rule means you take risk management steps so that you prevent losses of more than 1 percent on any single trade.

No one wins every trade, and the 1-percent risk rule helps protect a trader’s capital from declining significantly in unfavorable situations. If you risk 1 percent of your current account balance on each trade, you would need to lose 100 trades in a row to wipe out your account. If novice traders followed the 1-percent rule, many more of them would make it successfully through their first trading year.

Risking 1 percent or less per trade may seem like a small amount to some people, but it can still provide great returns. If you risk 1 percent, you should also set your profit goal or expectation on each successful trade to 1.5 percent to 2 percent or more. When making several trades a day, gaining a few percentage points on your account each day is entirely possible, even if you only win half of your trades.

Applying the Rule

By risking 1 percent of your account on a single trade, you can make a trade which gives you a 2-percent return on your account, even though the market only moved a fraction of a percent. Similarly, you can risk 1 percent of your account even if the price typically moves 5 percent or 0.5 percent. You can achieve this by using targets and stop-loss orders.

You can use the rule to day trade stocks or other markets such as futures or forex. Assume you want to buy a stock at $15, and you have a $30,000 account. You look at the chart and see the price recently put in a short-term swing low at $14.90.

You place a stop-loss order at $14.89, one cent below the recent low price. Once you have identified your stop-loss location, you can calculate how many shares to buy while risking no more than 1 percent of your account.

Your account risk equates to 1 percent of $30,000, or $300. Your trade risk equals $0.11, calculated as the difference between your stock buy price and stop loss price.

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Divide your account risk by your trade risk to get the proper position size: $300 / $0.11 = 2,727 shares. Round this down to 2,700, and this shows how many shares you can buy in this trade without exposing yourself to losses of more than 1 percent of your account. Note that 2,700 shares at $15 cost $40,500, which exceeds the value of your $30,000 account balance. Therefore, you need leverage of at least 2:1 to make this trade.

If the stock price hits your stop-loss, you will lose about 1 percent of your capital or close to $300 in this case. But if the price moves higher and you sell your shares at $15.22, you make almost 2 percent on your money, or close to $600 (fewer commissions). This is because your position is calibrated to make or lose almost 1 percent for each $0.11 the price moves. If you exit at $15.33, you make almost 3 percent on the trade, even though the price only moved about 2 percent.

This method allows you to adapt trades to all types of market conditions, whether volatile or sedate and still make money. The method also applies to all markets. Before trading, you should be aware of slippage where you’re unable to get out at the stop loss price and could take a bigger loss than expected.

Percentage Variations

Traders with trading accounts of less than $100,000 commonly use the 1 percent rule. While 1 percent offers more safety, once you’re consistently profitable, some traders use a 2 percent risk rule, risking 2 percent of their account value per trade. A middle ground would be only risking 1.5 percent or any other percentage below 2 percent.

For accounts over $100,000, many traders risk less than 1 percent. For example, they may risk as little as 0.5 percent or even 0.1 percent on a large account. While short-term trading, it becomes difficult to risk even 1 percent because the position sizes get so big. Each trader finds a percentage they feel comfortable with and that suits the liquidity of the market in which they trade. Whichever percentage you choose, keep it below 2 percent.

Withstanding Losses

The 1-percent rule can be tweaked to suit each trader’s account size and market. Set a percentage you feel comfortable risking, and then calculate your position size for each trade according to the entry price and stop loss.

Following the 1-percent rule means you can withstand a long string of losses. Assuming you have larger winning trades than losers, you’ll find your capital doesn’t drop very quickly but can rise rather quickly. Before risking any money—even 1 percent—practice your strategy in a demo account and work ​to make consistent profits before investing your actual capital.

Note: The Balance does not provide tax, investment, or financial services and advice. The information is being presented without consideration of the investment objectives, risk tolerance or financial circumstances of any specific investor and might not be suitable for all investors. Past performance is not indicative of future results. Investing involves risk including the possible loss of principal.

2% Rule

What Is the 2% Rule?

The 2% rule is an investing strategy where an investor risks no more than 2% of their available capital on any single trade. To implement the 2% rule, the investor first must calculate what 2% of their available trading capital is: this is referred to as the capital at risk (CaR). Brokerage fees for buying and selling shares should be factored into the calculation in order to determine the maximum permissible amount of capital to risk. The maximum permissible risk is then divided by the stop-loss amount to determine the number of shares that can be purchased.

Key Takeaways

  • The 2% rule is an investing strategy where an investor risks no more than 2% of their available capital on any single trade.
  • To apply the 2% rule, an investor must first determine their available capital, taking into account any future fees or commissions that may arise from trading.
  • Stop-loss orders can be implemented to maintain the 2% rule risk threshold as market conditions change.

How the 2% Rule Works

The 2% rule is a restriction that investors impose on their trading activities in order to stay within specified risk management parameters. For example, an investor who uses the 2% rule and has a $100,000 trading account, risks no more than $2,000–or 2% of the value of the account–on a particular investment. By knowing what percentage of investment capital may be risked, the investor can work backward to determine the total number of shares to purchase. The investor can also use stop-loss orders to limit downside risk.

In the event that market conditions change, an investor may implement a stop order to limit their downside exposure to a loss that only represents 2% of their total trading capital. Even if a trader experiences ten consecutive losses, using this investment strategy, they will only draw their account down by 20%. The 2% rule can be used in combination with other risk management strategies to help preserve a trader’s capital. For instance, an investor may stop trading for the month if the maximum permissible amount of capital they are willing to risk has been met.

Using the 2% Rule with a Stop Loss Order

Suppose that a trader has a $50,000 trading account and wants to trade Apple, Inc. (AAPL). Using the 2% rule, the trader can risk $1,000 of capital ($50,000 x 0.02%). If AAPL is trading at $170 and the trader wants to use a $15 stop loss, they can buy 67 shares ($1,000 / $15). If there is a $25 round-turn commission charge, the trader can buy 65 shares ($975 / $15).

In practice, traders must also consider slippage costs and gap risk. These can result in events that make the potential for loss significantly greater than 2%. For instance, if the trader held the AAPL position overnight and it opened at $140 the following day after an earnings announcement, this would result in a 4% loss ($1,000 / $30).

Never Risk More Than 2% Per Trade

How much should you risk per trade?

Try to limit your risk to 2% per trade.

Here is an important illustration that will show you the difference between risking a small percentage of your capital per trade compared to risking a higher percentage.

Risking 2% vs. 10% Per Trade

Trade # Total Account 2% risk on each trade Trade # Total Account 10% risk on each trade
1 $20,000 $400 1 $20,000 $2,000
2 $19,600 $392 2 $18,000 $1,800
3 $19,208 $384 3 $16,200 $1,620
4 $18,824 $376 4 $14,580 $1,458
5 $18,447 $369 5 $13,122 $1,312
6 $18,078 $362 6 $11,810 $1,181
7 $17,717 $354 7 $10,629 $1,063
8 $17,363 $347 8 $9,566 $957
9 $17,015 $340 9 $8,609 $861
10 $16,675 $333 10 $7,748 $775
11 $16,341 $327 11 $6,974 $697
12 $16,015 $320 12 $6,276 $628
13 $15,694 $314 13 $5,649 $565
14 $15,380 $308 14 $5,084 $508
15 $15,073 $301 15 $4,575 $458
16 $14,771 $295 16 $4,118 $412
17 $14,476 $290 17 $3,706 $371
18 $14,186 $284 18 $3,335 $334
19 $13,903 $278 19 $3,002 $300

You can see that there is a big difference between risking 2% of your account compared to risking 10% of your account on a single trade!

You would’ve lost over 85% of your account!

If you risked only 2% you would’ve still had $13,903 which is only a 30% loss of your total account.

Of course, the last thing we want to do is to lose 19 trades in a row, but even if you only lost 5 trades in a row, look at the difference between risking 2% and 10%.

If you risked 2% you would still have $18,447.

If you risked 10% you would only have $13,122.

That’s less than what you would’ve had even if you lost all 19 trades and risked only 2% of your account!

Can you imagine if you lost 85% of your account.

You would have to make 566% on what you are left with in order to get back to break even!

Trust us, you do NOT want to be in that position. You’d start looking a lot like Cyclopip. Do you wanna look like Cyclopip? Didn’t think so!

“What Do I Have to Do to Get Back to Breakeven?”

Here is a table that will illustrate what percentage you would have to make to break even if you were to lose a certain percentage of your account.

Loss of Capital % Required to get back to breakeven
10% 11%
20% 25%
30% 43%
40% 67%
50% 100%
60% 150%
70% 233%
80% 400%
90% 900%

You can see that the more you lose, the harder it is to make it back to your original account size.

This is all the more reason that you should do everything you can to PROTECT your account.

Not sure how well (or poorly) your trade went? Use our Gain & Loss Percentage Calculator to help you know what percentage of the account balance you have won or lost. It also estimates a percentage of current balance required to get to the breakeven point again.

By now, we hope you have gotten it drilled into your head that you should only risk a small percentage of your account per trade so that you can survive your losing streaks and also to avoid a large drawdown in your account.

Remember, you want to be the casino… NOT the gambler!

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