Calculating the correct position size is a critical skill every trader must master. This guide walks you through the exact process, from determining your risk tolerance to calculating the precise number of shares or contracts to trade.
The Position Sizing Framework
Before calculating position size, you need three pieces of information:
- Account Size: Your total trading capital
- Risk Percentage: How much of your account you will risk on this trade
- Stop Loss Distance: The price difference between entry and stop loss
The Master Formula:
Number of Shares = (Account Size x Risk %) / (Entry Price - Stop Loss Price)
Step-by-Step Calculation for Stocks
Step 1: Determine Your Account Risk
Decide what percentage of your account you are willing to lose if this trade goes wrong. For most traders, this is between 0.5% and 2%.
Example:
- Account Size: $25,000
- Risk Percentage: 1%
- Dollar Risk: $25,000 x 0.01 = $250
Step 2: Define Your Stop Loss
Identify where you will exit if the trade goes against you. This should be based on technical analysis, not an arbitrary number.
Example:
- Planning to buy AAPL at $150
- Support level at $145
- Stop loss: $144 (just below support)
- Risk per share: $150 - $144 = $6
Step 3: Calculate Position Size
Divide your dollar risk by the risk per share:
Position Size = $250 / $6 = 41.67 shares
Round down to 41 shares. Never round up when calculating position size.
Step 4: Verify the Position Value
Check that the total position value is reasonable:
Position Value = 41 shares x $150 = $6,150
This represents 24.6% of your account. If this feels too concentrated, you might reduce the position size or look for a tighter stop loss setup.
Complete Example Walkthrough
Let us walk through a real-world scenario:
Trade Setup:
- Account: $50,000
- Stock: NVDA trading at $450
- Entry: $450 on breakout above resistance
- Stop: $435 (below the breakout level)
- Target: $495 (previous high)
- Risk tolerance: 1.5%
Calculation:
- Dollar risk: $50,000 x 0.015 = $750
- Risk per share: $450 - $435 = $15
- Position size: $750 / $15 = 50 shares
- Position value: 50 x $450 = $22,500 (45% of account)
Risk-Reward Check:
- Potential loss: 50 shares x $15 = $750 (1.5%)
- Potential gain: 50 shares x $45 = $2,250 (4.5%)
- Risk-reward ratio: 1:3
Position Sizing for Options
Options require a different approach because they can lose 100% of their value.
For Long Options (Calls or Puts)
Your maximum risk is the premium paid. Size so that losing the entire position equals your risk tolerance.
Example:
- Account: $30,000
- Risk: 2% = $600
- Option premium: $3.00 per contract ($300 total)
- Maximum contracts: $600 / $300 = 2 contracts
For Spreads
Use the maximum loss of the spread (width minus credit received for credit spreads, or debit paid for debit spreads).
Credit Spread Example:
- Account: $30,000
- Risk: 2% = $600
- 5-point wide spread, $1.50 credit received
- Maximum loss: $5.00 - $1.50 = $3.50 per spread ($350)
- Position size: $600 / $350 = 1.7, round down to 1 spread
Adjusting for Volatility
Volatile stocks require wider stops, which means smaller position sizes. You can use the Average True Range (ATR) to normalize volatility:
ATR-Based Stop Distance = ATR x Multiplier (typically 1.5 to 3)
Position Size = Dollar Risk / (ATR x Multiplier)
Example:
- Stock A: ATR = $2, Entry = $50, Stop at 2x ATR = $4 away
- Stock B: ATR = $8, Entry = $100, Stop at 2x ATR = $16 away
- Dollar risk: $500 each
- Stock A position: $500 / $4 = 125 shares
- Stock B position: $500 / $16 = 31 shares
This keeps dollar risk equal despite different volatility levels.
Quick Reference Table
| Account Size | 1% Risk | 2% Risk |
|---|---|---|
| $10,000 | $100 | $200 |
| $25,000 | $250 | $500 |
| $50,000 | $500 | $1,000 |
| $100,000 | $1,000 | $2,000 |
Automate Your Position Sizing
Pro Trader Dashboard helps you track risk across all positions and maintain consistent position sizing discipline.
Common Calculation Mistakes
1. Using Arbitrary Stop Losses
Do not set stops like "10% below entry" without technical justification. Stops should be at levels where your trade thesis is invalidated.
2. Forgetting Commissions and Slippage
For smaller accounts, factor in trading costs. A $10 commission on a $100 risk trade is 10% of your risk budget.
3. Not Recalculating After Account Changes
Update your dollar risk amount as your account grows or shrinks. Use current account balance, not starting balance.
4. Rounding Up
Always round down when calculating shares. Rounding up increases your actual risk beyond your planned amount.
Summary
Position sizing is straightforward once you have the formula: divide your dollar risk by your risk per share. The key is consistency - calculate position size for every trade, use technical levels for stops, and never risk more than you planned. Whether trading stocks or options, the principle remains the same: define your maximum loss, then size accordingly. This discipline protects your capital and ensures longevity as a trader.
Learn more: complete position sizing guide and the 1% rule in trading.