I have mentored numerous beginning and intermediate traders. I have also co-founded a Trading Club which meets six times a year and has nearly 200 members. I talk to other traders regularly and I often answer trader’s questions. One of the main habits that cause traders to lose money is taking too much risk.

The most common reason that traders lose money is:
  • Not understanding risk;
  • Not quantifying risk;
  • Taking too much risk.
A good trader knows how much percentage and dollar risk they are exposed to at any one time.

A good trader understands the types of risk he/she faces:
  • Risk of slippage;
  • Risk of gapping markets;
  • Risk of lack of liquidity;
  • Event risk;
  • Risk of taking trades overnight, over weekends and over holiday periods;
  • Carry cost risk;
  • And so on.
Did you know that most Top Traders risk less than 1% of their capital on each trade? Top traders also often limit their overall risk to less than 4% of their capital.

This means that to emulate their risk habits with an account size of $20,000 you would need to risk less than:
  • $200 per trade;
  • $800 at any one time in the market (all trades combined).
I take slightly more risk. I allow myself a maximum 1.6% risk on FX trades and 2.2% risk on Commodity trades. I recommend these are the absolute maximum risk levels you allow yourself.

Sadly most new traders happily risk 20%, 30% and sometimes 100% of their capital at any one time. It is no wonder they get wiped out!

Here is an email I received recently and my response:

“Sorry to bother you. But you are the best person to turn to for a bit of help and guidance in my situation right now.

Yesterday I made 4 trades all on USD.

Bought the eur/usb, gbp/usd, sold the usd/cad, usd/chf. And the next morning all 4 trades went south and I got stopped in all 4 trades and sustained substantial loss to my trading account.

I had $17,000 and now down to $10,000 I guess I used more leverage on these trades than my usual.

Anyway lesson learned very harsh about not to over leverage, i will never let this happen. Now I am just skeptical about putting on any trades no matter how sure i am. It’s stopping me.

What do you think? I am sure you've been there, so what spotlight can you flash on me to move on? Any wise words from the wise man??? :)”

And my Response:

“Thank you for your honesty! Being honest with yourself is half of being a good trader.

I can tell you one problem you have straight away. You are taking WAY too much risk.

Top traders tend to take very low risk per position, usually under 1%. I allow myself a maximum of 1.6% per FX trade.

So 1.6% of $17,000 is $272. That is the MOST you can risk on any one trade. And those should be the trades that tick EVERY box. So generally limit your risk to 1% per trade.

Okay so assuming every one of these four trades were trades that met ALL of your criteria, your maximum loss would have been $272 x 4 = $1, 880 rather than the $7,000 you lost.

I know it is frustrating because you want to make a lot of money, but traders who take too much risk inevitably LOSE lots of money.

So now you have $10,000, your MAXIMUM risk per trade can only be $160. This should enable you to place the trades you like because the risk is nice and small.

Also one final word of caution, if you have say seven trades all correlated you still would have too much risk even if each trade only had $160 risk. Because as you found out last night correlated trades can all go bad at the same time.

Think of the $7,000 you lost last night as tuition fees you have paid the market. As you say you will never make that same mistake again so in a few years time when your trading account is large, it will seem like a cheap lesson the market taught you.”

I have a friend who is an FX broker. He has been a broker for more than a decade and he has literally hundreds of traders on his client list. He told me once that he sees dozens of new traders and almost all of them follow this pattern on a weekly or monthly basis:

Small gain, small gain, small gain, small gain, small gain, MASSIVE LOSS. And then he never hears from them again.

The reason is simple. These traders load up with positions and in one big move the market goes against them and their whole capital is wiped out.

PLEASE heed my advice. Take small amounts of risk. For details of the amount of risk I recommend see:

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