What Is Position Sizing?
Position sizing is the act of managing the value of any given trading position.
If you go long 1,000 Bitcoin (BTC) Perpetual Futures Contracts (BTCPFC) at 1x leverage on BTSE (equivalent to the price of 1 BTC) while BTC trades at $10,000, your position size is 1,000 contracts, equal to 1 BTC at $10,000 U.S. dollars (USD). To fund this trade, you would deposit the full $10,000 amount.
Additionally, adding leverage to the situation brings further complications.
Say you have $1,000 USD in your BTSE Bitcoin Perpetual Futures wallet. You enter a 1,000 contract long using 10x leverage while Bitcoin trades at $10,000. Your position size in this case is still 1,000 contracts, equal to 1 BTC, or $10,000. If Bitcoin drops down to $9,900, you lose 10% of your wallet funds, even though Bitcoin’s price only dropped 1%. This is because you have put down only $1,000 to fund this trade, effectively making your position leverage to be 10x.
What Is Risk Management?
Essentially, risk management involves entering trading positions that are specifically proportionate to your trading capital (money or funds) and your goals so that a single trade does not have more impact on your account than you desire.
Let’s say you have $10,000 in your BTSE Bitcoin Perpetual Futures wallet. You only want to risk 1% of the allotted capital per trade, meaning you are only comfortable losing $100 on any given position.
You then go long 1,000 contracts using 1x leverage while Bitcoin trades at $10,000. Risking 1% on this trade means closing the position via stop-loss or manual position closure if Bitcoin’s price drops down to $9,900, netting you a loss of $100, or 1% of your initial $10,000. This example ignores the marginal effect of trading fees and funding rates.
The numbers change, however, depending on your initial capital. If you have $1,000 in your BTSE Bitcoin Perpetual Futures wallet and want to risk 1% per trade, you can only lose $10 on any given position before needing to close it, based on a 1% risk limit. If you go long 1,000 contracts at 10x leverage while BTC is at $10,000, you have to close your position if Bitcoin’s price drops down to $9,990.
Alternatively, if you want to give your trade more room to move, you can enter a 100 contract position at 1x leverage while BTC trades at $10,000. A 1% loss will not occur until BTC drops down to $9,900, giving you more margin for error. Since your position is funded at 1x leverage, this means the return on your capital exactly mirrors the return of Bitcoin.
Many other leverage and position sizing combinations are also possible for risk management. One well-known method to size position quantitatively is called the “Kelly Criterion”. While the specifics of this method are outside the scope of this article, we will cover this position-sizing technique in a future article. Please note the above examples do not include trading fees and slippage, which also factor into risk management and calculations.
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