In relation to our money management discussion, the 2percent rule will be a very helpful guide.However, the most difficult part is to follow this rule strictly as possible. For detailed understanding with this popular trading rule, read the definition provided by investopedia.
What Does 2% Rule Mean?
A trading practice where an investor should not concentrate more than 2% of available capital on a single trade. To follow the 2% rule an investor first calculates 2% of the available trading capital, called the capital at risk. Brokerage fees for buying and selling shares are then factored into the capital at risk, and this figure is divided by the current share price. The resulting figure is the total amount of shares that can be purchased. If market conditions change and result in the trader losing the total value of that trade the downside exposure is only 2%, since the value of the original trade was limited to 2% of the total amount of trading capital available.
Investopedia explains 2% Rule
The 2% rule is a restriction created by investors in order to stay within the boundaries of a trading system. For example, an investor with $100,000 will purchase no more than $2,000 - or 2% of the value of the account - of a particular investment. By knowing the upper limit that can be risked, the investor can work backwards to determine the total number of shares that can be purchased. The investor can also use stop-loss orders to limit downside risk.
Read more: www.investopedia.com
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