Hello trader,
As many of you know, I like to bake. I make multiple types of artisan breads, basic sandwich breads, and rolls.
It's a fun hobby that our family and friends benefit from, since we can't possibly eat everything we make.
Having been a baker for decades, you might think I have the process down to perfection — and you'd be wrong. I forget the salt.
When I bake bread, I take the time to make sure the water is the right temperature, the starter is active, and the measurements and texture are on point.
Yet while carefully tending to all those important steps, I forget to add the salt. More times than I can count. I put the dough in the oven, bake the bread, cool it, slice it — and then I'm greatly disappointed by that flavorless lump of gluten.
One ingredient, present in the smallest quantity of all, renders the bread what I consider inedible. It has happened so many times that it's become a family motto: "Did you forget the salt?"
To break my repeated mistake, I now pull out the salt and a tablespoon and set them right next to the mixer before I start any other step.
Salt isn't only a key flavor component in bread — it also extends shelf life, acting as a natural preservative.
Position sizing as a part of risk management can be the salt you're forgetting in your trades. We can follow every step in our trading plan — fundamental analysis, specific indicators, stop losses, targets — and yet, with all of that in place, forgetting the salt of position sizing means we'll be trading too large or too small every time.
Trading too large is like the bread with no preservative: our trading account won't have a very long "shelf life," because oversized positions mean we can't weather many losses.
Trading too small means we won't enjoy that delicious flavor when we hit our targets — the wins will be smaller than they should have been. Position sizing is a small ingredient in trading, but
I'd argue it's the most important one. It determines whether you love the bread you made or find it inedible.
If you've never heard me explain position sizing, here's how it works.
I always determine my stop loss and target based on the chart alone — not my account size or what I'm willing to risk. It is a purely technical, chart-based entry and stop.
The market doesn't care where you got in or what you're willing to lose; it only cares about price action.
After selecting an entry point and stop loss, you have your Trade Risk (TR) — the dollar exposure for the smallest unit you can trade: one share of stock, one option contract, or one micro futures contract.
Set that number aside. Now we determine what we're willing to risk, which I call Portfolio Risk (PR).
PR is the percentage of your account balance you're willing to risk on any single trade. Divide your PR by your TR to get the number of shares or contracts you should trade — sized to maximize your wins and protect you during losses.
Here's a simple example:
- You're buying a stock priced at $22 per share
- Your stop loss is $20, making your Trade Risk $2 per share
- You have a $30,000 account and are willing to risk 2% per trade → Portfolio Risk = $600
$600 ÷ $2 = 300 shares
You can buy 300 shares without risking more than 2% of your account. Optimized for profit. Protected against loss.
Such a simple step — and one that gives your trading both great flavor and a longer shelf life. Consider this your reminder, coming from across the kitchen: "Don't forget the salt."
Blake Young
Senior Market Strategist, TheoTrade