Position Sizing Guide: Managing Trading Risk

Understanding Position Sizing

Position sizing determines how much capital to risk on each trade. Proper position sizing is crucial for long-term trading success and risk management. It's the difference between surviving a losing streak and blowing up your account.

Risk Management Principles

• Risk Per Trade: Never risk more than 1-2% of your portfolio on a single trade
• Stop Loss: Always set a stop loss to limit potential losses
• Position Size Formula: (Account Balance × Risk %) / (Entry Price - Stop Loss Price)

Position Sizing Formula

Position Size = (Account Balance × Risk Percentage) / Risk Per Share

Where Risk Per Share = Entry Price - Stop Loss Price

Position Sizing Examples

Example 1: Conservative Risk

You have a $10,000 account and want to risk 1% ($100) on a Bitcoin trade:

• Account Balance: $10,000
• Risk Percentage: 1%
• Risk Amount: $100
• Entry Price: $50,000
• Stop Loss: $48,000 (4% below entry)
• Risk Per Share: $50,000 - $48,000 = $2,000
• Position Size: $100 / $2,000 = 0.05 BTC
• Total Investment: 0.05 × $50,000 = $2,500

Example 2: Higher Risk Trade

Same account, but risking 2% ($200) with tighter stop loss:

• Risk Amount: $200
• Entry Price: $50,000
• Stop Loss: $49,000 (2% below entry)
• Risk Per Share: $1,000
• Position Size: $200 / $1,000 = 0.2 BTC
• Total Investment: 0.2 × $50,000 = $10,000

Advanced Position Sizing Concepts

Volatility-Adjusted Position Sizing

Adjust position size based on asset volatility:

• High Volatility: Reduce position size (e.g., 0.5% risk)
• Low Volatility: Increase position size (e.g., 2% risk)
• Use ATR (Average True Range) to measure volatility

Portfolio Heat Management

Monitor total exposure across all positions:

• Maximum Heat: Never exceed 6-8% total portfolio risk
• Correlated Positions: Reduce risk for correlated assets
• Diversification: Spread risk across uncorrelated assets

Position Sizing Strategies

1. Fixed Fractional Position Sizing

Risk a fixed percentage of your current account balance on each trade.

2. Fixed Dollar Amount

Risk a fixed dollar amount on each trade (e.g., always risk $100).

3. Kelly Criterion

Advanced method using win rate and reward-to-risk ratio:

Kelly % = W - [(1 - W) / R]

Where W = Win Rate, R = Win/Loss Ratio

Common Position Sizing Mistakes

1. Risking Too Much

The most common mistake is risking too much per trade, leading to large drawdowns.

2. Not Using Stop Losses

Trading without stop losses exposes you to unlimited risk.

3. Ignoring Correlation

Multiple correlated positions increase overall portfolio risk.

4. Not Adjusting for Volatility

Using the same position size for all assets ignores different risk levels.

Best Practices

1. Start Conservative

Begin with 1% risk per trade and increase as you gain experience.

2. Keep Detailed Records

Track position sizes, wins, losses, and overall performance.

3. Review and Adjust

Regularly review your position sizing strategy and adjust as needed.

4. Use Position Size Calculators

Automate calculations to reduce errors and ensure consistency.