When you start training in forex, you will learn about trading lots. In the context of forex trading, a lot refers to a batch of currency that the trader controls. The lot size is variable. Typical lot size classifications include standard lots, mini lots, and micro lots. It is important to note that the lot size directly impacts and indicates the amount of risk you are taking on.
Lot Size Matters
Finding a lot size that balances opportunities and risks is a very important individual decision. Using a tool like a risk management calculator can help clarify your decisions about lot size, but you should do this while considering your risk tolerance and trading goals.
The trading lot size directly affects how much influence market movement has on your accounts. For example, a 100-point movement will have a relatively small impact on a small trade compared to the same movement on a very large trade size.
For this reason, it is crucial to choose the right lot size. A very large lot size will make trading riskier and more uncomfortable to hold onto. A very small lot size may not generate enough potential profit to be worth the effort.
Trading with Micro Lots
Micro lots are the smallest lot size that most brokers allow to be traded. They consist of 1,000 units of your account’s funding currency. If your account is funded in US dollars, this means that a micro lot is equivalent to $1,000 of the base currency you wish to trade. If you are trading a dollar-linked pair, one pip would equal ten cents. Micro lots are great for beginners who want to keep risk at the lowest possible level while practicing trading.
Progressing to Mini Lots
Before micro lots, there were mini lots. A mini lot consists of 10,000 units of your account’s funding currency. If you are using a dollar-linked account and trading a dollar-linked pair, each pip in your trade would be worth about one dollar. If you are a beginner looking to start trading with mini lots, be sure that you have sufficient capital.
Although one dollar per pip may seem like a small amount, in forex trading, the market can move 100 pips in a single day, sometimes even in just one hour. If the market moves against you, this can lead to a loss of $100. It is your responsibility to determine your overall risk tolerance, but to trade with a mini account, you should start with a capital of at least $2,000 to be comfortable.
Using Standard Lots
A standard lot is a lot that consists of 100,000 units. If you are trading in dollars, this means that trading at this size is equivalent to trading $100,000. Trading at this size means that the trader’s account value will change by $10 for each pip movement. For a trader with only $2,000 in their account (which is usually the minimum amount required to trade a standard lot), a 20 pip movement could result in a 10% change in the account balance, making it so that most retail traders with small accounts do not trade standard lots.
Most forex traders you encounter will trade mini lots or micro lots. While this may not seem glamorous, keeping the lot size within reasonable limits relative to your account size will help you maintain trading capital to continue trading in the long run.
A Helpful Visualization
In his book “Trading in the Zone,” trading author Mark Douglas provides a helpful analogy between choosing lot size and walking on a fragile bridge or a tightrope. The idea is that the larger the lot size the trader chooses, the more dramatic and emotional the trading experience will become.
To illustrate
This example will be a very small trade size relative to your capital, like walking over a valley on a very wide and stable bridge where nothing will disturb you even if there is a storm or heavy rain. Now imagine that as the trade size you place increases, the support or bridge beneath you becomes smaller and riskier.
When you place an extremely large trade size relative to your account balance, the bridge becomes narrow like a taut rope. Any small movement in the market can be like a gust of wind that tips the trader off balance and leads to disaster.
Frequently Asked Questions (FAQs)
How much money do you need to trade forex?
The forex market is less regulated than other markets, so requirements such as the minimum account size are usually determined by brokers. You might be able to trade forex with just $100, but it’s better to save more and give yourself flexibility for losses.
How do you calculate forex profit?
The first step in calculating forex profit is to measure the movement of the pair. For example, you might be trading a dollar-linked pair that moves three pips in your favor, or 30 cents. Multiply this profit by the lot size and the number of lots. If you’re trading two standard lots, this would be equivalent to multiplying the two lots by 100,000 units per lot times the profit (2 × 100,000 × 0.3 = $60,000). If you are using leverage, you will need to subtract the amount you borrowed from this amount to find out how much profit you will actually receive.
Source: https://www.thebalancemoney.com/choosing-a-lot-size-1345193
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