Bounded risk before entry: stop, size, and leverage

Position size as a pre-entry filter

Trade size is not a fixed share or contract count. It is recalculated from changing account equity, entry, stop distance, and costs so the planned loss stays inside a chosen risk budget.

Because any single trade outcome is unknown at entry, the decision is whether the planned stop and size keep the loss affordable before the order is placed.

A stop-loss is a planned exit that bounds the loss if price reaches a chosen level. Volatility position sizing chooses the share or contract quantity from account equity, that stop distance, and costs so the planned loss stays inside the risk budget. Leverage control uses margin to fund a larger notional size only when the planned equity loss, including costs, still stays inside the same budget.

How trade size is set

Risk amount is the dollars that may be lost if the stop is hit, including commission and, when known, slippage.

A working size formula is risk amount minus commission, divided by the difference between entry and stop, yielding shares or contracts. That result is the trade size: the number of shares or contracts implied by dividing remaining risk dollars by the distance from entry to stop.

The 2% rules and leftover budget

The 2% per trade risk rule sets risk amount as 2% of account equity. That planned dollar loss must include commission and, when it can be estimated, slippage, and is independent of whether margin is used.

A complementary 2% per sector risk rule keeps combined planned loss in one market sector at or below 2% of account equity. Overall 6% risk is a working ceiling that keeps combined planned loss across open positions at or below 6% of account equity. Additional trades go into other sectors or commodities until those ceilings are reached.

Once a trailing stop locks in profit, residual risk on that position is no longer the original 2%, which can free budget for additional trades without raising the original loss allowance.

Two sizing illustrations

In the $25,000 account illustration, 2% risk is $500. With an $80 commission and a $1.50 entry-to-stop gap, the formula yields 280 shares.

In the $50,000 account illustration using 150% margin, a $91.49 entry, $90.23 stop, and $51.22 commission produce a 753-share size, $18,891.97 of margin use, and a $1,000 planned stop-out loss equal to 2% of equity. The planned equity loss, not the notional size funded by margin, is what must stay inside the risk amount.

Surviving a run of losses

Stops plus size control are presented as the way to keep a sequence of losses from exhausting the account, since even a tested method can lose several times in a row. Drawdown here means a run of consecutive losses that a tested method can produce and that risk limits are meant to survive.