Position Sizing in Crypto Trading

Position Sizing in Crypto Trading

The importance of position sizing is consistent across all traded financial instruments, including cryptocurrencies. Investors quantify the level of risk when participating in the markets according to their experience and overall tolerance.

Everyone knows trading any derivative comes with some level of risk, though position sizing precisely determines how much this is in relation to your account balance. Failure to grasp this simple yet paramount concept leads many traders to blow their accounts or lose substantial amounts of equity.

Position sizing is all about what portion of your account you plan to dedicate for every opportunity based on the number of lots/contracts or units you wish to buy or sell of a particular market.

At its core, position sizing is about strategically controlling your risks and ensuring you can maximize your gains. Moreover, position sizing in cryptocurrencies is a little trickier to grasp due to the number of decimals within prices and the very few calculators which exist.

Hence, this article will cover position sizing within crypto trading by exploring how it works and the measurement values with simple illustrative examples.

Understanding the measurement values of cryptocurrencies

To understand position sizing in cryptocurrencies, you must first consider how we measure prices from a value standpoint. Similar to fiat currencies or forex, we measure the differences in crypto values using pips. 

A pip (percentage in point) refers to a standardized digit-based unit measurement, the tiniest change between two prices. In forex, it is typically a change in the fourth decimal place or 0.0001. 

With cryptocurrencies, it varies depending on the exchange/broker and trading platform. In most cases, particularly with larger-capped cryptocurrencies like Bitcoin, it is quoted two places after the decimal. 

For instance, if BTC’s price moved from $57000.50 to $57000.51, this would be one pip; 10 pips would be from $57000.50 to $57000.60, and so on. As analysts tend to measure pip value the change in dollar terms, a pip in this instance equates to $0.01.

It’s worth mentioning this logic typically applies to larger-capped coins with naturally higher values. In smaller-capped cryptos, a pip may represent a cent change or a fractional cent variation.

Since cryptocurrencies are priced with several decimal places (up to 8 in some cases), you always need to know the value of each pip when considering position sizing. Knowing this quantification helps with providing the monetary value of your stop loss and profit target distances.

Understanding the lot sizes of cryptocurrencies

Now that we acknowledge the pip values let’s learn how we express lot sizes; it shares similarities with forex.

  • A standard lot size is 1, where one pip equals $0.01
  • A mini lot size is 0.1, where one pip equals $0.001
  • A micro lot size is 0.01, where one pip equals $0.0001

Again, such size allocations primarily apply for cryptocurrencies with no more than two digital places, meaning it will vary across other projects.

The details to know when position sizing in cryptocurrencies

Before considering any position in cryptocurrencies, you need a few details:

  • Entry: the price at which you plan to execute a buy or sell position
  • Stop loss: the price defining your invalidation point or where you deem your trade idea as nullified
  • Account size: the total amount of capital as your equity within a platform
  • Monetary risk %: the percentage of equity in relation to the dollar amount allocated to a particular position 

Defining the monetary risk is the most important aspect of position sizing as it reflects your tolerance level in real terms. In the investment world, one recommended practice is using the 2% rule, which states never allocating more than 2% of your equity on any given position.

For instance, if you have a $1000 account, you should never allocate more than $20 for each trade. It’s still more crucial to internalize the dollar amount and not so much on the percentage, although it provides a framework for approaching a series of positions.

Of course, this rule is not necessarily set in stone, but it is conservative and should allow you to withstand several consecutive losses while still keeping you in the game. After establishing how much you plan to allocate, you can now consider one of the formulas for knowing your position size.

Presently, there aren’t numerous position size calculators for cryptocurrencies like in forex, making it challenging. Nonetheless, the easiest formula to use is the following: 

(Account size X [risk % X 0.01]) / (entry price – stop loss price) X 100

As a pro tip, you may consider using TradingView before opening a position since it provides the necessary information beforehand compared to a platform like MetaTrader.

Position sizing example

Image illustrating the position sizing example as discussed below

In the chart above, we are looking at the BTC price. Let’s assume the present value of Bitcoin is $44 669 (entry price), and we plan to risk 2% off a $20 000 account ($200). Let’s also imagine a trader who wanted to go long (buy) and, based on their technical analysis, decides their invalidation point or stop loss area should be $43000.

Using the method above, let’s input the figures:

($20 000 X [2% X 0.01]) / ($44 669 – $43 000)

$400 divided by 1669 pips X 100 = 23.96 (we should round off to 24 lots) 

If a standard lot size means each pip is worth $0.01, 24 lots mean each pip is worth $0.24.

Final word: why size matters

Position sizing is at the root of your risk exposure strategy and shouldn’t be based on something arbitrary. As cryptocurrencies are leveraged products, it becomes more important to know your lot sizes before opening any trade since you can realize substantial losses in a shorter period.

Traders should include these considerations as part of a solid money management plan. This system must factor in one’s maximum drawdown. At this point, you should consequently know what percentage of your equity should be allocated for every trade to allow you to survive long enough to net those sweet, alluring pips.

Leave a Reply

Your email address will not be published.

Related Posts