Some newbie questions!

Beginner Questions
1

Hello to all at BabyPips.com

I’m a new member here and have a few questions. I’m new to FX so I do apologise if I’m being ignorant. However, I am eager to learn as much as possible and part of that process is getting advice from more experienced people.

I have a demo account with OANDA with £1000 in it, which I will start trading on once I’m ready.

  1. How do you correctly calculate risk per trade? I want my risk per trade to be 2%. Does leverage factor into this equation.

  2. I’m based in the UK hence my account currency is GBP. How important is this? Would there be any benefit in having it in USD instead?

Thats it for now, any informative answers I get will be very much appreciated!

2

Is that what you really mean?

Or do you mean, ‘how do you calculate [B]position size[/B], given a predetermined risk?’

If you have a predetermined risk percentage of 2% of your account value, then obviously your risk in GBP is simply:
0.02 x your account balance.

If you want to know how to calculate the maximum allowable position size corresponding to your predetermined risk percentage, here’s the equation:

[B]Number of Lots = [(Account Balance, in GBP) x (Risk %)] / [(Stop Loss, in pips) x (Pip Value, in GBP)][/B]

Pay special attention to one term in this equation: pip-value. For a GBP-denominated account, pip-values will vary with price for every pair, except the EUR/GBP pair. Therefore, you have to be able to find the appropriate pip-value, in order to use the equation, above. Check your trading platform for this info.

Also, make sure the pip-value you determine corresponds to the lot-size (not position size) that you are trading. For example, if you are trading mini-lots, make sure you are using the GBP-value per pip [B]per mini-lot.[/B]

Leverage does not figure into this calculation. If you use the equation given above to manage your risk, your use of leverage will take care of itself.

If you live in the U.K., then probably you “think” in terms of pounds, so stick with a GBP-denominated account. If you are an ex-patriot American who just cannot stop thinking in terms of U.S. dollars, then maybe a USD-denominated account would feel more comfortable to you.

3

Hi Clint,

Thanks for the respone. Yes thats exactly what I meant. I wanted to know what my position size should be with a predetermined risk.

About leverage. Say my leverage is 10:1 and my pip value in GBP is £1 per pip (hypothetically speaking), wouldn’t that leverage make is £10 per pip?

4

Leverage has nothing to do with pip-values.

“Hypothetically speaking”, if you trade [B]mini-lots of the EUR/GBP pair[/B], then your pip-value will be [B]£1 per pip per mini-lot[/B], regardless of the size of your account, regardless of the size of your position, regardless of the risk associated with your trade, and regardless of the leverage you are using.

Account currency + currency pair traded + lot size (not position size) [B]determines[/B] pip-value per pip per lot.

Regarding leverage, were you referring to 10:1 leverage as the [B]maximum leverage allowed[/B] by your broker? or as the [B]actual amount of leverage[/B] used by you on a particular trade? Note that neither form of leverage figures into the determination of pip-values. I’m just trying to understand the cause of your confusion.

5

The leverage figure was random basically. Now that you’ve explained that lot size determines pip value. What impact does the leverage have?

6

Well, you’re still not telling me which leverage you’re talking about. So, let’s just run through some leverage basics.

Let’s say that your broker offers you maximum leverage of 100:1. This means that you could — if you’re totally irresponsible — put on a position with a notional value that is 100 times the size of your account.

Example: you have a £1,000 account balance, and you place a 1-standard-lot GBP/xxx trade. One standard lot is 100,000 units of GBP, which is 100 times the size of your account. If you actually did this, you would be using 100:1 actual leverage.

Suppose, instead, you place a 1-mini-lot GBP/xxx trade. In this case, you would be using 10:1 actual leverage. And, if you place a 1-micro-lot GBP/xxx trade, you would be using 1:1 leverage (that is, no leverage at all), because the notional value of your trade (1,000 units of GBP) would be the same as your account balance.

Going back to maximum allowable leverage (100:1 in this example), your broker will escrow a portion of your account — called MARGIN — whenever you place a trade, and this margin amount will always be 1% of the notional value of your trade, regardless of how much leverage you were actually using.

Note that margin percentage = 1 ÷ maximum allowable leverage. 1% margin = 1 ÷ 100.

Example 1. You have a £1,000 account balance. Your allowable leverage is 100:1. You place a 3-micro-lot GBP/xxx trade. Three micro lots = 3,000 units of base currency (GBP, in this case). Immediately, your broker “escrows” a margin amount of £30 (1% of your £3,000 position size). This amount is not a loss, but it temporarily removes £30 from your trade-able funds. You will get your £30 back, when you close your trade, regardless of whether your trade was a winner or a loser.

Example 2. Same numbers as above, except you place a 5-micro-lot GBP/xxx trade. In this case, your broker requires a margin amount of £50 (1% of your £5,000 position).

In both examples above, your maximum allowable leverage (dictated by your broker) was the same 100:1. But, the margin required of you in order to place your trade increased as the size of your position increased. The purpose of margin is to protect your broker (not you) from losses, in the event your trade wipes out almost all of your account.

In example 1, you were using 3:1 actual leverage. In example 2, you were using 5:1 actual leverage. You should be able to determine for yourself that these figures are correct. As actual leverage used increases, your trade risk (in GBP-terms) increases proportionally. But, the pip-value associated with your trade does not change, because that value is expressed in terms of GBP per pip [B]per lot.[/B]

I hope that clears things up for you. Have a great evening.

7

Hi Clint, Thanks a lot that clears a lot for me! That was an in depth response. Appreciate it!

I found the babypips online position size calculator which keeps things simple for me in terms of what my lot size should be for any given trade, based on chosen risk percentage, stop loss etc.

However, I also have a lot calculator indicator within MT4 and its giving me a diff figure.

Example 1:

GBP Account Balance: 500
Risk Percentage: 1%
Stop loss: 30 pips
Currency Pair: GBP/USD
Price: 1.6421

Position size = 2737 units / 0.027 / 2 micro lots

However in MT4 my indicator is telling me 0.27 which to me looks like 2 mini lots. I’ve put the same risk percentage and stop loss in my indicator and also set the demo account balance to £500.

8

The Babypips calculator is correct. Furthermore, it is unambiguous — it gives you the answer in a format which you cannot misunderstand — it gives you [B]number of units[/B], and the equivalent in [B]micro-lots, mini-lots and standard lots[/B] (rounded down to whole numbers, of course).

Your MT4 platform is apparently set up to trade in mini-lots. That is, all trades must be in increments of mini-lots. Therefore, a position size of 0.27 means a fraction of a mini-lot, which obviously you can’t trade with the current settings on this platform.

Your choices are: accept a larger risk percentage, switch to a micro account (or a unit account), or deposit another £1,500 to your account.