If you monitor the average amount of losses and profits that robot achieves on back test, you will get a good idea of how well it is performing. For example, if you have a profitable system but the average losses are much larger than the average gains, the robot is depending on only a few signals to make all its profit. If you have a large number of losses but the average is low, then the robot is performing well to cut its losses quickly.
Usually it is considered that the greater the risk, the greater the potential reward, but this is not a hard and fast rule, and you want your trading robot to work on the winning side of this indication. In fact, the MetaStock system tester will calculate a reward/risk ratio for you. This varies from terrible, at -100, to excellent at +100.
Risk management is critical in making a profit in any sort of trading, and has several facets, not all of which you are in control of when you use a Forex robot.
Given that any system has times when there will be losses, a basic element of risk management is that you do not risk losing more than you can afford to. The losses that you will actually see are impossible to know, otherwise the system would be able to predict and eliminate them, but you must rely on historical evidence to get a feeling for this.
Some robots give you a chance to set the size of lot you will trade, giving you some manual control of the process. Robots will also calculate lot sizes for you, based on their programmed settings. Research what your robot will do, and if its approach appears too risky for your temperament, then scale back the amount of money that you put into its account at any one time. Once you have made a profit, you may want to protect some of it by withdrawing it from the account, even though that lessens the amounts that the robot can use to make more profits.
In talking about the way to choose a Forex robot, another aspect of risk management was mentioned. This is the amount of drawdown that you might expect with typical trading. This is something you will have researched in your robot’s selection, and is critical to your long-term trading future. There will be times when successive losers impact your account, and you must be confident that these will not cut short your trading career.
It is very important Risk management in Forex trading. This is for the simple reason that Forex allows you to leverage your initial investment to a great extent. This is an advantage if you are in a winning situation, but if you trade and suffer big losses, your broker can even ask you for more money than you initially deposited.
You will usually be able to trade at least 100 to 1 on a standard account, and the ratio may be increased if you trade Forex Minis which are one-tenth of the size, or Forex Micros which are one-hundredth. Note that not all brokers deal with these smaller sizes. It is essential that you understand just what consequences the price movements can have on your money.
For instance a standard contract or “lot” is for 100,000 units of currency (not necessarily dollars). With the leverage of 100 to 1, this means you must put up 1000 units to enter a trade of a standard contract. The number on the right end of the price, the fourth decimal place, is called a Pip, which is a Percent In Point, or a percent of a percent. With 100,000 units, each Pip is worth 10 units of currency, say US$10 if for example you are trading the USDCAD (US Dollar/Canadian dollar).
Some Forex robots I have used allow you to set the maximum stop loss level, which is how much the price can go against you before the trade must be closed out and you accept your loss. A well-known robot supplier recommends you use 300 for this figure in their robot.
You may well choose to agree with their number, and in the absence of any experience with the robot, this may be the best choice you can make. You must think carefully about the consequences to avoid having any surprises.
On the one hand, you do not want a stop loss level which is so low that the robot will exit fluctuating trades frequently. For instance, the robot I am currently testing is showing -136 on one open trade at this moment. Now, I don’t know if the price will recover and the trade become a winning trade, if it will continue losing until it meets the stop loss, or if the robot will decide to cut the losses before it reaches that point. Perhaps there is an equal chance of each outcome. If the stop loss had been set at 100, then for certain this trade would have lost, in this case $1000. But allowing the loss to run further gives the chance that it might recover and not lose anything.
On the other hand, you must consider that there is a slight chance the robot will continue losing until the stop loss is met. If you use the 300 number, then this corresponds to $3000 loss on a single lot traded, which cost $1000 to enter the trade.
