When trading on the Forex market, the size of the opened transaction is calculated in lots. In simple words, Lot is the size of the contract. The amount of investment will vary based on the lot size. The larger volume is bought by a trader, the more substantial will be his investment.
The standard market lot is 100,000 units of the base currency. For the EUR/USD currency pair, it is equal to 100,000 EUR. That is, by buying one lot of this instrument, the trader acquires 100,000 units of the base currency. For any other currency pair, the same rules apply.
In addition to lots, there are also mini and micro-lots in Forex trading. They are smaller in size and allow a wide range of retail traders to trade. A mini lot is equal to 10,000 units of the base currency which equals 0.1 lot; a micro lot is equal to 1,000 units of the base currency which equals 0.01 lot.
You can select different trade sizes in the trading terminal. The minimum step is usually 0.01, which allows the trader to flexibly manage his capital.
How to calculate lot size
In forex trading, it is important not only to be able to determine the right entry point. It is also very important to correctly calculate the size of a trading position to manage capital and risks. Buying one lot with big leverage can bring considerable profit. However, in case the forecast proves to be wrong, the trader risks suffering considerable losses.
Let us examine one of the variants of calculation. Suppose that a trader lays down 5% of the deposit as a risk for one trade. The total amount of the deposit equals $100. Correspondingly, 5% is $5. When opening trade of 0.1 lot size, each point will be equal to $1. Correspondingly, after 5 points of quotes movement in the opposite direction from the forecasted one, the trader will have to close the position or a Stop Loss will trigger.
When opening a deal of 0.01 lots, each pip will be equal to 10 cents. Accordingly, at a risk of $5, the trader can place a stop loss at a distance of 50 points. Assuming that the risk-to-profit ratio is 1:2, Take Profit in this case can be set at a distance of 100 points.
With different sizes of minimal deposits, you need to make an individual calculation of trade volume. And based on the result to determine the Stop-Loss and Take-Profit. Let’s assume that the trader’s minimum deposit is $1000. In this case, the 5% risk in the transaction will be $50. The trader can open a position with 0.1 lot size, as the price of one old point will be $1. Accordingly, the Stop Loss can be set at a distance of 50 points from the opening price, which will be equal to 50 points.
According to the same scheme for such a trades are set and Take Profit. Assuming the ratio of at least 1:3, the deal’s profit should be 150 points, which will be equal to 150 US dollars.
If you strictly follow the rule of 5% risk, it is necessary to recalculate the position each time after closing the previous trade, because the account balance will change. However, it will take some time, and if a promising new position appears immediately after the closing of the previous one, the trader may simply not have enough time to re-calculate everything. In this case, it can be recommended to decrease the risk down to 2-3% and recalculate it at the end of the trading day.
There is also another way of calculation. Its formula:
Size of risk / size of stop loss / point value x lot size..
If we consider an example with a minimum deposit of $100, a Stop Loss of 50 points, a pip price of $0.1 and a lot size of 0.01, we get:
5 US$/50 points/0.1 US$ x 0, 1 lot = 0, 1.
That is to open a deal at these parameters should be 0.1 lot.
When calculating the Stop Loss, you should not forget about the value of the spread. At stops in 50 points and a spread of 3, the size of Stop Loss as a result will be 53 points. The same applies to Take Profit size.
Forex point price
Calculated point on the Forex market by the following formula:
Contract x (Price + 1 point) – (contract x price).
Consider the size of one point for the EUR/USD pair with the following input data:
- The contract is 1 lot.
- The price is 1.2100.
Substitute these values into the formula and obtain: 100 000 x (1.2100 + 0.0001) – (100 000 x 1.2100) = 10. It turns out that when trading one lot, the price of the point will be 10 points of the base currency. In principle, these calculations are currently not very important, because you can find specialized calculators that allow you to calculate the pip value for different trade sizes. But understanding the principle of calculation allows you to carry out all these actions yourself, and quickly enough.
In the trading terminal Metatrader 4, you can see the maximum and minimum contract sizes. To do this, go to the “Market Watch” window and select a currency pair. After that press, the right button of the mouse and in the drop-down menu select “Specification”. In the window that appears find the maximum and minimum volume.
Trade Lot Calculation Script by DaVinciFX Group
In order not to perform all calculations manually, you can use a special script – DaVinci Count trading lot. Its essence is that it allows you to automatically calculate the lot size based on the trader’s account balance.
The script has only two settings – stop-loss size and risk percentage per trade. The script works quite simply. The trader enters the initial data, for example, the amount of risk within 2% of the deposit and the size of Stop Loss equal to 100 points. The account balance is 5000$. As a result of the script operation, we obtain a lot size equal to 0.1.
The advantage of this tool is that it allows you to quickly get new calculations depending on the current account balance. The algorithm will automatically calculate a new lot size for the selected currency pair, just move the script to the chart.
Forex lot calculation risks
Incorrect calculations can lead to the fact that the trader will lose a significant part of his investment or the entire deposit when Stop out is triggered. However, even before that, the trader may face a situation called a Margin Call. In this case, it is necessary to replenish the deposit in order to continue to hold a position.
Typical mistakes of traders when calculating risks
The vast majority of traders misjudge their risks and, based on this, make mistakes in calculating trading lots. The first typical mistake is that the trader does not know the cost of one pip. Coupled with reluctance to place Stop Loss it may lead to rapid loss of the entire deposit.
Let us consider a classic example. With a deposit of $100, the trader decides to open a 1 lot trade with a pip price of $10. If the price of the asset changes in the opposite direction even by 5 points, the trader will lose half of his investment. With average daily volatility in the range of 50-70 pips, such a deal is extremely risky. Therefore, before calculating the lot size, the trader should make sure that he knows the value of one pip.
The second typical mistake is ignorance of elementary rules of capital management. Risks in one deal should not exceed 5% of the total deposit amount. If we take the example above, it is a maximum of $5. Accordingly, if the calculation of a lot is made in the previous example, the deal should be closed when the price changes by half a point. Otherwise, a gross violation of the basic rules of money management will begin.
The third mistake is a lack of understanding of volatility and daily average ranges. If a trader works intraday and sets Stop Loss at 50 points and Take Profit at 150 points with a daily moving average of 50-70 points, he is unlikely to close such a position, unless something extraordinary happens.
Accordingly, the position will be moved to the next trading day. If the swap is negative, the trader will get an additional expense item.
One more typical mistake of a trader is an illiterate calculation of potential profit to risk. It does not directly influence the lot size, but it also leads to the fact that instead of getting profit in the long term the trader loses money.
A simple example – a trader sets Stop Loss at 50 points and Take Profit at the same distance. The mathematical expectation at 50% of profitable and losing trades will be negative because there is a spread and commission, which is calculated in each open position. If a trader sets Stop Loss at 50 points and Take Profit at 150 points, even with 50% of profitable trades, the mathematical expectation will be positive.
Competent lot calculation is one of the keys to success in trading. You can do it yourself or you can use our script, which automatically calculates the size of the position based on the parameters set by the trader, saving a lot of time and effort.
Also, do not forget that the risk should be moderate. You shouldn’t chase thousands of percent of profit in the market, but simply have to keep the trading account, smoothly increasing your balance. Money management is one of the three main aspects of trading in financial markets and simply cannot be neglected.