Let us first understand what is position sizing?
Risk management and position sizing while trading in the stock market is probably one of the most important aspects to attain overall success but it remains neglected by majority traders in the stock market
We all know that investing and trading in the stock market is quite risky and two things are primarily responsible for an investor for greater risks he or she may face
One is a dearth of knowledge to analyze the stock market and stocks to choose from thousands of stocks available in the stock market and second is improper risk management and position sizing of trade to trading capital of an individual and well-defined risk amount per trade usually some percentage of trading capital
Position sizing, therefore, refers to the number of shares to be bought by a particular stock investor or trader. An investor’s trading capital and risk appetite must be considered while arriving at position sizing.
Proper understanding of Position Sizing in stock investment and trading
As the name suggests it refers to the size of the position of a particular stock that should be bought to find its place in an individual stock portfolio which helps to contain the risk of loss and capping of loss to a certain percentage of trading capital so that the investor does not expose beyond well-defined risks and according to manage risks through right position sizing and thus maximize the possibility of returns on investments
It is widely accepted norms that a trader and an investor should not risk more than 2% of trading capital in a single trade while a range of risks could be 1% to 2% of trading capital based on the risk tolerance of an individual trade and investor
To manage position sizing knowledge of technical analysis helps to arrive at stop loss with precise entry price based on the formation on the stock chart of selected stock in the stock market so that an investor precisely knows exit plan at a loss and books the loss. Once the entry price with stop loss is known a trader is aware of risk per share and thus quantity to bought can easily be calculated with a simple mathematical calculation which is a position size for the stock chosen for investment and includes in the stock portfolio
For example, your trading capital is INR 10,00,000 and you wish to take a risk of 1% of your trading capital which calculates to INR 10,000 (1% of trading capital) which means a trader and an investor should buy the quantity of share in such as fashion that he/she loose only INR 10,000 when stop loss is triggered when the stock price moves against his/her expectation
You may download the position size calculator from the resource section on this website which will be a helpful tool to manage risks while investing and trading in the stock market through position sizing