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Position sizing answers one question: given how much you're willing to lose on this trade, how large should the trade actually be? Get this wrong and even a "correct" trade idea can do serious damage to your account.
The 1% rule is a common starting point: never risk more than 1% of your account balance on a single trade. If your account is $1,000, that's a maximum $10 loss if your stop-loss is hit — regardless of how big the position itself is.
To size the trade, you work backwards from your stop-loss distance: a wider stop means a smaller position size for the same dollar risk, and a tighter stop allows a larger position for that same risk. This is why position size and stop-loss placement should always be decided together, never separately.
Real-World Example
A trader with a $5,000 account wants to buy EUR/USD with a 30-pip stop-loss. Using the 1% rule, they risk $50 max, and work backward from the 30-pip stop to calculate the exact position size, roughly 0.16 lots, that keeps the dollar risk at $50 regardless of the stop distance. A different setup with a tighter 15-pip stop on the same $50 risk allows a larger position size, since the smaller stop distance means each unit of exposure risks less per pip, position sizing adapting automatically to each trade's specific stop distance rather than using a fixed lot size every time.
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