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6. Risk management

From money to quantity

The practice risk budget is R = D × r, where D is allocated capital and r is the selected fraction in decimal form. A value of 1% is written as 0.01. The figures in the course demonstrate arithmetic, not a recommendation for your personal risk level.

For a linear instrument before costs, q = R / |E - S|, where E is entry and S is the stop. For a long, S is below E; for a short, S is above E. A stop equal to entry creates division by zero and is not a valid calculation input.

Round the size down to the permitted quantity increment. If the rounded result is below the exchange's minimum order or notional, skip the trade. Do not round up merely to meet a minimum: that breaches the original budget.

Accounting for costs

With illustrative entry and exit fee rates fE and fS per unit of notional, and an execution reserve b per unit of asset: q ≤ R / (|E - S| + E × fE + S × fS + b). This model assumes a linear contract and settlement in one currency. Add funding and other known costs separately; uncertain execution does not become a guaranteed limit on loss.

Step-by-step example. D = 200 USDT, r = 1%, so R = 2. Long: E = 100, S = 98, target T = 104. Before costs q = 1 unit, notional 100. Gross profit at the target is 4; gross risk is 2; potential reward/risk = 2.

With hypothetical fees of 0.05% on each side, excluding funding and an execution reserve, risk per unit to the stop is 2 + 0.05 + 0.049 = 2.099. Maximum q ≈ 0.9528347. At a 0.01 increment, use 0.95. The planned loss including those fees is approximately 1.99405. A stop with slippage produces a different result.

Drawdown and the relationship between outcomes

Potential reward/risk = |T - E| / |E - S| before costs. A ratio of 2:1 means potential profit is twice the planned risk. Some interfaces express Risk/Reward as 1:2. Always explain the order so that you do not compare reciprocal values.

A high target-to-stop ratio does not prove that a strategy is worthwhile: a distant target may be reached less often. Losing streaks are possible even with a method that has a positive average result. Increasing size after a loss makes the account more dependent on the next outcome.

Drawdown is measured from the previous peak in capital. After a decline from 100 to 80, the loss is 20%, but returning to 100 requires a gain of 25% on the remaining 80. A 50% loss requires a 100% gain to recover. Thinking "win back exactly the same percentage" is incorrect arithmetic.

Practical exercise. D = 500; practice risk 0.5%; short E = 50, S = 51.25, T = 47.50. Before costs R = 2.50; stop distance 1.25; q = 2; notional 100; gross potential profit 5; reward/risk = 2. Repeat the calculation yourself and explain why leverage was not part of the formula for q.

Checklist. Record the capital and settlement currencies separately; direction; stop; R; q; rounding increment; minimum notional; costs; and combined risk of open positions. If any value is unknown, a calculator result is not a complete trading decision.