Risk Management in Trading: Position Sizing and Stop Losses

Risk management determines your long-term survival as a trader. A good strategy with poor risk management will fail.

The Golden Rule

Never risk more than 1-2% of your account on a single trade.

Account Size	1% Risk	2% Risk
£1,000	£10	£20
£10,000	£100	£200
£50,000	£500	£1,000
£100,000	£1,000	£2,000

Position Sizing Formula

Position Size = (Account × Risk %) ÷ (Entry - Stop Loss)

Variable	Example
Account	£10,000
Risk %	1% (£100)
Entry price	£50
Stop loss	£45 (£5 risk per share)
Position size	£100 ÷ £5 = 20 shares
Total cost	20 × £50 = £1,000

Stop Loss Types

Type	How It Works	Best For
Fixed stop	Fixed price below entry	Beginners
Trailing stop	Moves up as price rises	Trending markets
Volatility stop	Based on ATR	Volatile assets
Technical stop	Below support level	Range markets
Time stop	Exit after specified time	Day trading

Where to Place Stop Losses

Location	Logic
Below recent swing low	Technical level
Below support zone	Respect market structure
Below moving average	Trend-based
2× ATR below entry	Volatility-based
At your maximum loss limit	Account management

Risk-Reward Ratio

Ratio	Meaning
1:1	Risk £100 to make £100
1:2	Risk £100 to make £200
1:3	Risk £100 to make £300

Minimum 1:2 risk-reward is recommended for most strategies.

Win Rate vs Risk-Reward

Win Rate	Min RR to Break Even
30%	1:2.3
40%	1:1.5
50%	1:1
60%	1:0.67
70%	1:0.43

You don’t need a high win rate if your risk-reward is good.

Diversification

Rule	Why
Max 5-10% in one asset	Single asset blow-up protection
Correlated positions	Both will lose in same market conditions
Position correlation	Don’t buy two assets that move together
Account allocation	Spread across uncorrelated strategies

Common Risk Management Mistakes

Mistake	Consequence
No stop loss	Unlimited downside
Moving stop loss wider	Turns a small loss into a big one
Adding to losers	Doubling down on bad trades
Over-leveraging	Wiped out by a small move
Risking too much	Emotional trading after losses
No trading plan	Reactive decisions

Drawdown Management

Drawdown	Action
0-10%	Normal, continue
10-20%	Reduce position size by 50%
20-30%	Stop trading for at least 1 week
30%+	Stop trading. Review strategy

Bottom Line

Risk management keeps you in the game. Risk 1-2% per trade, size positions based on your stop loss distance, and aim for at least 1:2 risk-reward. Use stops every time. Reduce size after drawdowns. A trader with good risk management and average strategy will outperform a trader with poor risk management and excellent strategy.