A critical element to successful trading is position sizing but it is often overlooked and seldom talked about by most traders. Inappropriate position sizing may cause you to not profit enough from your big winners if your position size is too small or worse, may cause you to blow up your account on a losing trade if your position size is too large.
One Size Doesn’t Fit All
In order to avoid blowing up our accounts and/or not profiting enough from our winning trades, the question we need to ask ourselves is “what is the correct position size we should be using?” There are many different strategies to position sizing but the one that I like the most and the one that we’re going to discuss here is called Risk Based Position Sizing.
Risk Based Position Sizing looks at our planned entry point, our planned exit point, the percentage of our total trading capital that we are willing to risk on the trade, and calculates the number of shares we should buy (or short). To this end, we developed the Position Size Calculator to help you quickly and easily determine the correct number of shares to buy (or short) based on the following:
- Your trading capital
- The percentage of that capital you are willing to risk on the trade
- Your planned entry price
- Your stop loss in case your trade is wrong
**By definition, if you do not trade with a stop loss (whether you enter the order or use a mental stop loss), you are taking on unlimited risk. If you have no plan on where to get out if you are wrong, a stock could theoretically go to 0 and because you didn’t plan where to get out, you’d still be in the trade.**
Based on your inputs above, the Position Size Calculator automatically computes the following:
- The number of shares to purchase
- Dollars risked on the position
- Dollars risked per share
- Percentage risked on the position
The position size calculator is completely free. It’s located in the upper right hand corner of the screen or you can click here to give it a try!
Any questions, please let us know by leaving a comment below.