Risk Management

In almost all cases, poor risk management is the reason an account gets blown up.

Risk management is the absolute foundation of trading. Without a strict plan to protect your capital, you are not trading - you are gambling. Strategies generate profit, but proper risk management keeps you "in the game" after an inevitable losing streak.

Protect your tools

In trading, money is your tool. If you lose your capital, you can no longer operate. The goal is not to avoid losses completely (losses are part of trading), but to prevent one trade or one bad streak from destroying your account and leaving you with nothing.

The 1% rule

The most important rule is to never risk too much on a single trade. The standard is the 1% rule: risk no more than 1% of your total account value per trade.

EUR 5,000 account: maximum risk is EUR 50 per trade.
EUR 10,000 account: maximum risk is EUR 100 per trade.

This amount is called a Risk Unit. Even if you lose 10 trades in a row (which can happen), you still have 90% of your capital left. That gives you the stability needed to stay rational.

Experienced traders who have been consistently profitable for a longer period may increase this to 2% of account value. More than 2% is never a good idea.

Risk-Reward Ratio (RR)

RR (Risk-Reward) determines whether a trade is mathematically worthwhile. Always use at least a 1:2 RR. This means for every dollar you risk, you should be able to make at least two. The path to 2R should be clear, so no obvious levels (or VWAP) should block the move between entry and your 2R target.

Why? With a 1:2 RR, you only need to win around 35% of your trades to be profitable. So you can lose more often than you win and still make money.

Calculating position size

You should never buy a random number of shares. You calculate position size based on your stop loss so your loss is always exactly 1R.

Formula: Number of shares = Risk Unit / Distance to Stop Loss

Example: You risk EUR 50. Your entry is $150 and your stop loss is $148 (distance = $2).
50 / 2 = 25 shares.
Whether your stop is tight or wide, if it is hit, your loss is still EUR 50 (small variation possible due to slippage). This removes fear from trading.

Maximum daily loss

Just like each trade needs a stop loss, your day needs one too. Define a hard limit (for example 2R or 3R daily loss) at which you must stop trading. This prevents emotional spirals and revenge trading.

Even with perfect math, your mind can still sabotage execution. Now that you understand the numbers, we need to look at psychology. Continue reading: Emotions in trading

The Trade Plan

A strategy tells you how the market works, but a trade plan tells you how YOU operate.

Emotions vs Logic

The role of emotions in trading is major and often underestimated. Emotions are the main reason 85% of traders lose money.