Forex Money Management Styles

Have you ever wondered what separates pros from amateurs in the forex trading business? The answer is very simple: forex money management! Even though most traders are aware of it, for some reason, they choose to ignore it. Why? Well, often, things that demand a bit of effort seem to be overlooked.

In some way, forex money management is perceived as a burdensome and highly unpleasant activity. It forces traders to pay constant attention to their positions, and at times, it even means necessary losses. This might surprise you, but occasional loss-taking is essential to a long-term success.

Forex Money Management Styles

    On the whole, there are two forex money management styles:
  1. Trying to benefit from a small number of large winning trades by taking many frequent small stops.
  2. Trying to benefit from a greater number of small winning trades, by taking infrequent but long stops, in the hope that many small gains will outweigh few large losses.

To a larger extent, the method you end up choosing will be largely dependent on the type of person you are and this is something you will discover as soon as you start trading.

These two forex money management methods also depend on the types of stops your may take. There are four types of stops you may consider:

  1. Equity Stop - This is the simplest of all stops. The trader risks only a predetermined amount of his or her account on a single trade.

    Disadvantage: Unfortunately, it places an arbitrary exit point on a trader's position, without actually giving you a chance to react logically to market activity, satisfying only the trader's internal risk controls.

  2. Chart Stop - There are thousands of possible technical analyses stops, driven by the price movement of the charts or by various technical indicator signals.

    Disadvantage: These alone would not provide sufficient information to formulate a stop. Traders like to combine these exit points with standard equity stop rules.

  3. Volatility Stop - This is a more sophisticated version of the chart stop that uses volatility issues instead of price action to set risk parameters. The idea is that in a high volatility environment, when prices go through wide ranges, the trader needs to adapt to the present conditions and allow for more room for a larger risk.

    Disadvantage: None, except that there is too much to learn about volatility measurements, Bollinger bands, standard deviation measuring variance in price.

  4. Margin Stop - This is perhaps the most unconventional of all money management strategies, but it can be an effective method in forex trading, if used wisely. Since forex markets hours operate 24 hours a day, dealers can liquidate their customers' positions almost as soon as they trigger a margin call. That's why forex customers are rarely in danger of generating a negative balance in their account, since computers automatically close out all positions.

    Disadvantage: None! Since, most FX dealers offer 100:1 leverage, even a 1 point move against the trader would trigger a margin call (considering the dealer requires a $1,000 minimum.) Irrespective of leverage the trader assumed, this would prevent him from blowing up his or her account
    In just one trade and would allow him or her to take many swings at a potentially profitable set-up without the worry or care of setting manual stops.

Conclusion

Since there are several methods of forex money management, make sure to practice to see which suits you best. Before you start trading real money, try our forex practice account. The practice account will help you get acquainted with the world of online trading and find your own forex money management method.