Position Sizing
The process of determining how much capital to allocate to each individual investment in a portfolio.
What is Position Sizing?
Position sizing is the discipline of deciding what percentage of a portfolio to allocate to any given trade or investment, balancing the potential reward against the risk of loss. Common methods include the fixed-percentage approach (risk no more than 1–2% of total capital on a single trade), the Kelly criterion (allocate a fraction proportional to edge divided by odds), and volatility-based sizing (allocate less to more volatile positions to equalize risk contribution). Proper position sizing prevents a single losing trade from inflicting catastrophic damage on a portfolio and allows investors to remain in the game through inevitable drawdown periods. It is often cited as more important than entry timing in determining long-run returns.
Example
A trader with a $100,000 portfolio using the 2% risk rule would never risk more than $2,000 on a single trade. If they buy a stock at $50 and set a stop-loss at $45, the position size would be $2,000 ÷ $5 = 400 shares ($20,000 total), representing 20% of the portfolio. This ensures a single bad trade costs no more than 2% of capital, preserving enough to recover and continue trading.
Source: Investopedia — Position Sizing