Forex Trading Money Management – The Secret to Increasing Your Returns Exponentially
Did you know that you can lose huge amounts of money trading Forex, even if you have a profitable Forex trading system? Contrary to what most Forex traders think, a profitable Forex trading system is not the be-all and end-all of successful Forex trading. The secret to keeping your trading account safe and increasing your returns exponentially at the same time is the little known money management practice of Forex trading.
What is Forex Trading Money Management?
Forex trading money management is basically how much you should be risking on each trade, and there are many different money management strategies. A popular example that you will often hear about is the 2% rule, which states that you should not risk more than 2% of your trading capital on a single trade. Most people are confused with this definition because they confuse margin with risk per trade, so I will explain it in a different way: if you use the 2% rule, you must size your positions in such a way that that you do not lose more than 2% of your capital in any given trade. For example, if your stop loss is at 10 pips and 2% of your equity is $200, then you should only take 2 contracts (2 contracts x $10 per pip x 10 pips = $200 risk per trade)
The Limits of Traditional Forex Trading Money Management
Most people religiously follow the 2% rule without knowing why they are supposed to. Personally, I believe in knowing why I’m doing something before doing it, so I researched it thoroughly. It turns out that if you want to minimize the risk of blowing up your trading account while maximizing your long-term trading profits, then you’ll want to keep your risk per trade between 2-4% of your trading capital. Depending on your own risk tolerance, you can actually go as high as 3% or even 4% to increase your profits even more, without significantly increasing your risk.
The secret method of exponential money management
The 2-4% Forex Trading Money Management Pattern is a type of geometric money management technique and is the most effective way to grow your capital when trading Forex. Traditionally, people apply Forex trading money management using fixed contract sizes, which is good for small accounts but not very efficient. The reason the 2-4% rule is so powerful is that it allows you to apply the power of compounding to your trading. As you make profits, you reinvest them again and again, which creates an exponential growth rate in your trading account. I’m sure you’ll agree that when it comes to your trading profits, an exponential increase is much better than a linear increase.
The power of the 2-4% rule
There are two ways to apply the 2-4% rule. One is to update your position sizes at the end of regular time intervals, and the other is to update your position sizes at specific profit/loss milestones. Whichever method you apply, it is clear that the 2-4% rule is powerful because it creates the fastest and safest growth in your trading account. Obviously, you will need a profitable Forex trading system to successfully implement this Forex trading money management strategy. Once you have these two components in place, there’s really nothing stopping you from creating consistent Forex passive income that grows and grows over time!