I understand that, what I am saying and exampled is that by setting you Stop other than 1% you are changing your risk. What am I missing here?
I donāt understand what youāre asking now if iām honest - I can understand the post from Clint though. Sorry
Thanks,
the original post is2nd from the top, I am saying that if you change the Stop you are changing the amount of potential loss and to me that equates to changing the risk.
Iām sure Clint will jump in when he see the activity,
Is big leverage really a sin?
No.
complete title,
Leverage and risk based on stop loss size. Is big leverage really a sin?
Leverage and risk based on stop loss size. Is big leverage really a sin?
No.
Ok, prove it.
This image looks good to me,
if you have a trade go against you when using 500:1 leverage donāt you stand to lose at 500:1 also?
My guess is that he is not using all of the effective 1:500, but rather he has margin calculated on 1:500 maximum leverage. A subtle difference between effective and maximum leverage
In a nutshell, if 10 pips were to make me Ā£1000, then -10 pips would put me -Ā£1000 down, but as mentioned the margin is calculated on 1:500.
If using big leverage, then high risk tolerance also goes hand in hand.
Exactly and that is my point of all this, that ones risk tolerance is defined by the Stop.
This is not true. The risk tolerance is derived from the percentage you have chosen to risk on the trade as a percentage of your avalible trading balance. It has nothing to do with the size of the stop because your position size will adjust accordingly, providing you are prudent.
I canāt see the confusion here? Is this a hidden camera show or somthing?
There must be some sort of mental blockade in my brain,
In my 1:1 example above what you have to lose is the amount of your stop,
I donāt know but that is my potential risk.
If I add any leverage then my potential risk is my Stop times that leverage.
Sorry for my not understanding whatās being discussed here, I take the 5th.
One must clear this, before one continues to trade again.
Ok, lets take this from the beginning.
Let go of leverage - forget it - it doesnāt matter. Leverage used (which is different to opening an account with a maximum 1:500 leverage) is a byproduct of position sizing. Position sizing is king, leverage allows you to build a position size above the actual value of your account balance.
You donāt choose the leverage used on a trade, rather you choose the total amount of capital that you want to risk as a percentage of your account balance.
It doesnāt matter what maximum leverage you have available, be it 1:10, 1:50, 1:100 or 1:500 because 1% of your account balance is always going to be 1%.
Now on a 1:10 account you will have a maximum position size which is limited to what you could also trade in a 1:500 leveraged account, this is where the danger is. However your position size will be the same in all four of the above leveraged accounts should you have the same account balance and stop distance in pips. Thatās all that matters!!
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Ok I see your point of the different leveraged accounts, thank you for taking the time.
I recently joined a course where they recommend trading un leveraged. I have always been used to the percentage concept and have a margin allowance of 500:1.
Iāve had to re-think this because apparently by using such high leverage your account is at risk even if you are only risking 1% per trade, if there is a Black Swan event like the CHF driop you could end up losing your account and end up in dept. If I recall it slipped 2800 pips or something so if you had a 1 lot trade you would have lost 28000 even if your account is far less.
Just wondering what are your thoughts on this, I would much rather stick to my 1% rule but do worry after finding this out.
Your question indicates a misunderstanding of several key concepts.
You said, " I ā¦ have a margin allowance of 500:1."
What you mean to say is that you have maximum allowable leverage (determined by your broker) of 500:1. This corresponds to required margin of 0.2% of the notional value of your trade.
If you donāt understand what I just said, then before we proceed, we have to clear this up.
The word āleverageā can mean two different things. And, whenever you hear someone talk about leverage, you need to be absolutely certain that you know which type of leverage is being discussed.
Maximum allowable leverage is dictated by your broker. It is a limit to the amount of leverage you may use in any trade. As long as you donāt exceed the limit imposed by your broker, the limit has no effect on your trading.
Think of maximum allowable leverage like the credit limit on your credit card. If your card has a credit limit of $10,000, that doesnāt mean that you use it to make $10,000 purchases. It simply means that the total of all your credit purchases in a given month cannot exceed $10,000.
Similarly, the maximum allowable leverage on your forex account is simply the limit that you may not exceed.
If you use the 1% risk rule that you mentioned in your post, you will never, ever, come anywhere close to using the 500:1 maximum allowable leverage on your account. Instead, you will be using actual leverage of 15:1, or 10:1, or 5:1, or even 1:1 ā depending on how close your stop-loss is to your entry price.
Letās prove that with some examples.
Letās say that you have a $1,000 account. Your broker offers 500:1 maximum allowable leverage. You want to trade EUR/USD, and you want to limit your risk to 1% of your account. That is, if you get stopped-out, your 1% loss will be $10. Consider the following scenarios.
(1) Your stop-loss is 100 pips from your entry price. The Position Size Calculator computes your position size as 1 micro-lot (1,000 units of EUR/USD).
If EUR/USD = 1.1400 currently, then the notional value of your position is 1,000 units x 1.1400 = $1,140.
The actual leverage you are using is the notional value of your trade divided by your account balance, which is $1,140 / $1,000 = 1.14 ā which means 1.14:1 actual leverage used in this trade.
(2) Same trade, except you set your stop-loss at 50 pips from your entry price. The Position Size Calculator specifies a position size of 2 micro-lots (2,000 units of EUR/USD).
You should realize, without doing any math, that this position size is 2 times as large as the one calculated in (1) above, and therefore your actual leverage used is 2 times as great as before ā that is, in this case, you are using 2.28:1 actual leverage.
(3) Same trade, except now you set your stop-loss at 20 pips from your entry price. Use the Position Size Calculator to determine the position size that corresponds to your predetermined 1% risk level, and then compute the actual leverage used in this trade.
You should get this result: actual leverage used = 5.7:1.
(4) Same trade. This time your stop-loss is 10 pips from your entry price. Do the math, and you will find that actual leverage used in this case is 11.4:1.
In any of the scenarios above, did you exceed the maximum allowable leverage dictated by your broker? ā Not even close.
Regarding your concern about Black Swan events ā
The potential for loss in a black swan event is determined by two factors: (1) what will your loss be, if your stop is executed as placed?, and (2) how much worse can your loss get, if price over-runs your stop by x-number of pips?
(1) If your stop-loss gets you out as intended, then your loss will be 1% of your balance, exactly according to your trading plan.
(2) On the other hand, if market conditions are such that there is no liquidity at the level of your stop, resulting in slippage such that price runs well past your stop-loss, then your loss will be determined by conditions beyond your control, and could be catastrophic.
This sort of loss has nothing to do with the maximum allowable leverage on your account.
The size of a catastrophic loss caused by a black swan event will be proportional to your position size, which has been predetermined by your 1% risk level.
Example: If your stop-loss was set at 20 pips from your entry price, then a 20-pip loss would equate to a 1% loss in your account. But, if price hits your stop-loss, and there is no liquidity at that price to execute your stop, then you will not get out of your trade as planned.
If price then moves 500 pips beyond your stop (just to pick a number at random) before itās possible for your stop to execute, then you will suffer a total loss of 26% of your account. Make sure that you know how that figure was determined. Hint: every additional loss of 20 pips will cost you an additional 1% of your account.
I didnāt mean to use so many words to answer your question. I hope I answered it to your satisfaction.
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Hi Clint,
Very kind of you to take time to respond in detail. You have more than answered my question and forgive me for not being clear with the question.
Kind Regards
Maz