Forex Trading Images from Cvanci
SECOND ERROR: Leverage is very appealing, the possibility of making money with the money of other persons, and multiplying your profit x100, x200, even x400. Remember, also the risk is yours, and it is multiplied by the same factor. You will be accountable for all the loss, not your broker, the house never loses.
Your instructions to the broker are to close your long position when
there is a loss of 50 pip (stop loss order) or when there is a profit
of 100 pip (take profit order).
And now it happens that you were wrong and indeed the EUR/USD pair moved against you in a Short trend, you hit the stop loss and you lost 50 pip. This is translated into USD$500 loss (50 pips mutiplied by the pip value that for 1 standard lot is USD$10). This amounts to 5% of your initial capital. Now you margin is USD$9,500. In order to recover from this loss you need a gain of 5.26%, not of only 5%. And this is only to break even. And again if you have a setback with the same strategy, another 50 pip loss drives you to a USD$9,000 margin.
To recover you will need an 11.11% gain which is a lot more difficult. Your margin is in its way to extinction. A third loss will take you to a new low of USD$8,500 margin, you need an almost impossible 17.65% gain to recover.
A fourth loss will drive your margin to USD$8,000. I don’t have
to tell you what a new loss will mean, you imagine. The problem is that
having no more margin (or a too small margin), precludes any possibility
of making a comeback. Statistically this does not happen. Now lets say
that after the fourth loss-in-row, you have a good trade and you earn
100 pips=USD$1,000. Your margin rises to USD$9,000. You feel happy. If
you examine it again and are objective there is no reason to be happy,
you have worked a lot, you have been over several hours and days of stress,
have lost time that you took from your family, work, personal leisure
and friends, and you have still a net loss of USD$1,000. A new good trade
will lead you to USD$10,000. You are only in your starting line.
Should the drawdown continue to 10 consecutive loses your margin will be reduced to USD$5000, and it will drag your self-confidence down as well.
Now let’s see an example of good money management: Same margin USD$10,000. You decide to go long on USD/EUR with 0.5 lots, stop loss=20 pip, take profit=50 pip. You make four bad trades in a row. Every bad trade results in USD$100 loss (20 pips multiplied by the pip value that for 0.5 standard lots is USD$5). You lost 1% of your margin in every lost trade. Your accumulated loss after four-in-row loses is already 4% of your margin or USD$400, so your new margin is USD$9,600. You need a 4.16% increase to recover.
Not impossible. Odds are that you will have good trades also, but you need to leave margin, to protect it from the losses-in-row (called also drawdown). One good trade with this money management will give you a profit of 50pip=USD$250. A second one is another USD$250. Your margin is already USD$10100, in blue. You were never too far from your initial margin, you survived the drawdown. And even if the drawdown had continued, it will not take you too far from your original margin. A drawdown of 10 consecutive loses will take you to a margin of USD$9,000 (with the bad strategy only 2 losses-in-row will be enough to reduce your margin to USD$9,000).
Take a look at the characteristics of good money management:
In summary: when being hit, minimize injuries, when you hit, HIT HARD.
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