You can have a winning strategy, perfect entries, and great market reads—and still blow up your account. How? Poor position sizing.
Position sizing is the most underrated aspect of trading. Let's fix that.
What Is Position Sizing?
Position sizing is simply determining how much of your capital to risk on any single trade. It answers the question: "How many shares/contracts should I buy?"
It's not about how much money you want to make. It's about how much you can afford to lose.
The Core Principle: Never Risk Too Much
The golden rule of position sizing: Never risk more than 1-2% of your account on a single trade.
Why? Let's do the math:
If you risk 10% per trade and hit a losing streak of 5 trades (which happens), you've lost 50% of your account. To recover from a 50% loss, you need a 100% gain.
If you risk 2% per trade and hit the same losing streak, you've lost roughly 10%. To recover, you need about an 11% gain. Much more manageable.
Position sizing keeps you in the game.
How to Calculate Position Size
Here's the formula:
Position Size = Risk Amount / Stop-Loss Distance
Example:
- Account size: $50,000
- Risk per trade: 1% = $500
- Entry price: $100
- Stop-loss: $95 (distance = $5)
- Position size: $500 / $5 = 100 shares
If you buy 100 shares at $100 and get stopped out at $95, you lose $500—exactly 1% of your account.
Adjusting for Volatility
Different assets have different volatilities. A 2% stop on Bitcoin makes sense; the same stop on a treasury ETF might be too tight.
Solution: Use a volatility-adjusted approach like ATR-based position sizing.
Formula: Position Size = (Account × Risk %) / (ATR × Multiplier)
This ensures you're taking consistent risk regardless of how volatile the asset is.
The Kelly Criterion
For advanced traders, the Kelly Criterion provides a mathematically optimal position size based on win rate and risk/reward ratio.
Kelly % = W - [(1-W) / R]
Where:
- W = Win rate (as a decimal)
- R = Average win / Average loss
Most traders use "Half Kelly" or "Quarter Kelly" to be more conservative.
Caution: Kelly can suggest aggressive sizing. Many traders cap their risk at a maximum regardless of Kelly's output.
Common Position Sizing Mistakes
1. Fixed Dollar Amount
"I'll buy $5,000 worth of every stock."
The problem: This ignores your stop-loss. A $5,000 position with a tight stop risks less than the same position with a wide stop.
2. Going All-In on "Sure Things"
There are no sure things in trading. The market can stay irrational longer than you can stay solvent. Treat every trade as a possibility, not a certainty.
3. Increasing Size After Wins
You hit a few winners and start increasing position sizes dramatically. Then one loss wipes out all your gains.
Better approach: Scale up position size gradually as your account grows, maintaining consistent 1-2% risk.
4. Averaging Down
Your position is losing, so you buy more to "lower your average cost."
This is adding to losers—the opposite of what successful traders do. You're increasing risk on a trade that's already going against you.
Position Sizing and Your Trading Plan
Your trading plan should specify:
- Maximum risk per trade (e.g., 1%)
- Maximum risk across all open trades (e.g., 5%)
- Position sizing method (fixed fractional, ATR-based, etc.)
Write it down. Follow it religiously.
Practice with Simulation
Position sizing becomes intuitive with practice. Use ChartMini's trading simulator to experiment with different position sizes and see how they affect your simulated equity curve over many trades.
This helps you internalize why proper sizing is so crucial—without risking real capital.
Conclusion
Position sizing won't make poor trades profitable. But it will ensure that poor trades don't destroy you.
Risk management might not be exciting, but it's what keeps professional traders in the game year after year. Master it.