Well, now that we know how to calculate the value of 1 pip, calculate the position size that will be used in a trade is really simple.
In this article we will not discuss about how much risk in a trade, which would be the subject of another article, so the first thing to calculate is the monetary amount you are willing to lose in the transaction.
Assuming for example that the size of our trading account is 2,000 EUR and we apply a monetary management in which we risk 1.5% of the account, it is easy to determine that the maximum loss we are willing to assume in a trade is 30 EUR (2000 EUR * 1.5%).
We assume also that the position opened will have a stop loss set in advance. Therefore, as the value of 1 pip is known, then would be easy to calculate the loss in the account in case the price reaches the stop loss for each contract involved in the transaction.
Let’s see some examples:
Buy EUR/USD at 1.0910 with Stop Loss at 1.0850
While the Stop Loss is 60 pips, the loss assumed if the price reach the Stop Loss will be 100,000 EUR * 0.0060 USD/EUR = 600 USD.
Now, what kind of exchange rate we apply to convert those USD to EUR? 1.0910, which is the current exchange rate, or 1.0850, which is the market price if the stop loss is reached?
We apply the 1.0850, for our broker will convert the realized loss (600 USD) at the exchange rate at the time, which will be 1.0850 and not 1.0910. Therefore, for 1 standard contract (100,000 EUR), the assumed loss given that our stop loss is 60 pips from the entry point will be 600 USD/1.0850 = 553 EUR.
The last step is to determine the number of lots in the trade so that the potential loss is 30 euros and not 553 euros. In this case the calculation is a simple rule of three.
If one contract (100,000 EUR) are 553 EUR, how many contracts (X) will be 30 EUR?
X = 30/553 = 0.054 contracts = 5400 EUR.
However, considering that the minimum amount that most brokers accept is 0.01 contracts (1,000 EUR), we have to choose whether to operate with 0.05 or 0.06 contracts.
- If 0.05, our loss will be: 5,000 * 0.0060/1.0850 = 27.65 EUR
- If 0.06, our loss will be: 6,000 * 0.0060/1.0850 = 33.18 EUR
Buy USD/JPY at 119.20 with Stop Loss at 118.50
In this case we must bear in mind that we trade in a currency pair where does not intervene the currency in which the account is denominated, so we have one more variable.
We assume the same example above, where we have already determined the maximum loss we are willing to take, 30 EUR.
In this case, considering that the Stop Loss is 70 pips from the entry price (0.70 = 119.20 – 118.50), the result if this price level is reached will be:
100.000 USD * 0,70 JPY/USD = 70.000 JPY
Now, since our account is denominated in EUR and not in USD, we will not use the exchange rate of the currency pair in which we are trading, but we have to use the exchange rate of the EUR vs JPY. For these purposes, we assume the EUR / JPY = 128.57 (118.50 * 1.0850).
Therefore, 70,000 JPY/128.57 = 544 EUR.
Now we just have to apply the previous rule of three:
X = 30/544 = 0.055 contracts = $5,500 USD
As before, we have to round the result to two decimal places:
- If 0.05, our loss will be $ 5,000 * 0.70/128.57 = 27.22 EUR
- If 0.06, our loss will be $ 6,000 * 0.70/128.57 = 32.66 EUR
I personally believe that every trader should know how to calculate these numbers without difficulty, because sometimes we have no other resources to calculate the position size, however, today there are many tools developed for this end.
You can access a position size calculator using the following link: