Do you need to take a bigger risk to trade a higher time frame chart?
In this video:
01:33 Understanding Position Size
03:09 What’s Your Style Of Trading
04:04 Free Lot Size Calculator
Some people think that if they trade a higher time frame chart it means they need to take more risk because their stop loss has to be bigger. It's just not the case, but I'm going to explain to you why right now.
Hi Forex traders, it's Andrew Mitchem here, the owner of The Forex Trading Coach, and today is Friday the 4th of September. I've had an email here from Rajesh, and it's quite a common email and quite a common misconception out there in the trading world, mostly from new traders, but also I do get the same comment from some experienced traders as well.
People seem to think that they can't trade bigger time frame charts because they think they need to take more risk on a trade, and the reason they think they need to take more risk is because their stop loss needs to be bigger in terms of the amount of pips. The email from Rajesh says, “Andrew, if one uses higher time frames, will this not affect the stop loss placement, and therefore be at a higher cost?” It's just not true at all, and as I've mentioned, many people think that it is true, and that's a misconception. Let's explain why.
Understanding Position Size
If you have a 10 pip stop loss people think that's a very small risk, and they think at the same time that if you have a 100 pip stop loss it's a very big risk in terms of monetary amount. People think that with a small account they can't trade a longer time frame, let's say a daily chart that has a 100 pip stop loss, because the stop loss is just too big and I can't afford that risk, and it's wrong. All you need to do is have a better understanding of position sizing, and I've got a great tool on my website that's available free of charge. It's called a lot size calculator. Get your copy, because it will really help you understand position sizing.
Have a think of it this way: If you were to risk 10 pips on a trade and you place one standard lot on that trade, that's no different than risking 0.1 lots with 100 pips stop loss. It's exactly the same; if you lose, you lose exactly the same. It doesn't matter whether it's 10 pips or 100 pips, it's the position size that you change that makes the stop loss monetary value the same.
Think of that same example. Let's say on that 10 pip stop loss trade you have a profit target of, say, 20 pips. It's no different than a 100 pip stop loss trade having a target of 200 pips. The money that you make is exactly the same if you have your position size correct. It's still a 2 to 1 reward to risk trade. You're risking 10 pips to make a potential 20, and on the other scenario, on the longer time frame chart, you're risking 100 pips to make a potential 200, but because of the way you've positioned your placement you've got 10 times smaller risk on the 100 pip stop loss trade. The actual amount that you gain if the trade is profitable, or you lose if the trade is a losing trade, is exactly the same regardless of which scenario you go.
What’s Your Style Of Trading
Of course, that depends on your style of trading, whether you like the scalping, shorter time frames, or whether you like the longer time frame trades. You could quite easily argue that if you take lots of trades with, say, 10 pip stop losses, you actually have probably a higher chance of getting stopped out because it only takes a small movement within the price to wipe your 10 pips out. By the time you allow a couple of pips for spread, and then maybe an 8 pip movement, your trade's stopped out so much more easily than on a longer time frame chart where you have a 100 pip stop loss. Of course you could argue that the 20 pips in the profit is likely to be hit a lot easier on the short time frame than the 200 pips, but really, on the 200 pip trade, if you allow for the bigger stop loss you're allowing the trade longer time to actually get to its profit target. It's a really important point.
Free Lot Size Calculator
As I mentioned, have a look at that lot size calculator. It's on my website, it's free of charge, use it. People love it, it's been downloaded tens of thousands of times from traders all around the world and people just absolutely love it because it helps to change their mind set of position sizes and lot sizing in a way that most other people won't tell you about. Have a look at that, and don't forget to jump on one of those free webinars that I hold each week. You can see them on my website, choose the session that best suits you in terms of start time and date time, and also the style of trading in terms of are you brand new or are you more experienced, or frustrated. Whichever side you're at, make sure you choose the webinar that best suits you and the style that suits you. Jump onto it. There's so much information that I give away freely each week on those sessions.
Have a wonderful weekend. I look forward to bringing you more information this time next week.