Forex trading can be a very lucrative venture, but it comes with its fair share of risks. As a forex trader, it is essential to understand the risk involved in every trade you make. Risk management is crucial in forex trading, and it starts with calculating the risk of each trade. In this article, we will explain how to calculate risk in forex trading.
1. Determine the Lot Size
The lot size is the number of currency units you will trade. A lot size can be standard, mini, or micro. A standard lot is 100,000 units of the base currency, a mini lot is 10,000 units, and a micro lot is 1,000 units. The lot size you choose will depend on the size of your trading account, risk tolerance, and trading strategy.
2. Identify the Stop Loss
A stop-loss order is an order placed by a trader to sell a currency pair when it reaches a certain price. The stop loss order is used to limit the loss in a trade. To calculate the risk of a trade, you need to identify the stop loss level.
For example, if you are trading EUR/USD at 1.1500 and you place a stop loss at 1.1400, the stop loss is 100 pips.
3. Calculate the Risk in Pips
Once you have identified the stop loss level, you need to calculate the risk in pips. To do this, subtract the stop loss level from the entry price. In the example above, the risk in pips is 100 pips (1.1500 – 1.1400).
4. Determine the Risk in Dollars
To determine the risk in dollars, you need to multiply the risk in pips by the pip value of the currency pair you are trading. The pip value is the value of one pip in the currency you are trading. The pip value varies depending on the currency pair and the lot size.
For example, if you are trading EUR/USD and the pip value for a standard lot is $10, the risk in dollars would be $1,000 (100 pips x $10).
5. Calculate the Position Size
The position size is the number of lots you will trade. To calculate the position size, you need to divide the risk in dollars by the distance between the entry price and the stop loss level.
For example, if you have a trading account with $10,000 and you are willing to risk 2% of your account on a trade, your maximum risk per trade would be $200 ($10,000 x 2%). If the distance between the entry price and the stop loss level is 100 pips, and the pip value for a standard lot is $10, the position size would be 0.2 lots ($200 / (100 pips x $10)).
6. Manage Your Risk
Calculating risk is important, but managing risk is even more critical. You need to have a risk management plan in place to protect your trading account. Some risk management techniques include setting stop loss orders, using trailing stop loss orders, and using position sizing.
Conclusion
Calculating risk is an essential part of forex trading. It helps you to determine the maximum amount you are willing to risk on a trade and helps you to manage your trading account. Remember to always have a risk management plan in place and to never risk more than you can afford to lose. With proper risk management, forex trading can be a profitable venture.
