The 1% Rule: Position Sizing to Survive Drawdowns

Most trading accounts are not destroyed by one bad idea. They are destroyed by ordinary losing streaks traded at a size that could not survive them. The 1% rule is a simple cap on how much of the account any single trade is allowed to lose. This guide explains what the rule means, how to calculate position size from it, why drawdowns are so hard to recover from, how often long losing streaks occur, and when 1% may still be too much.

What is the 1% rule in trading?

The 1% rule caps the risk on each trade at 1% of current account equity. Risk here means the money you lose if your stop-loss is hit: the distance from entry to stop, multiplied by the position size. It does not mean putting only 1% of the account into a position. With leveraged products, a trade that risks 1% can control exposure worth far more than the whole account.

Two plain-word definitions help. Position sizing is choosing how big a position to take. A drawdown is the fall from an account's peak value to a later low, usually expressed as a percentage.

How do you calculate position size with the 1% rule?

The formula is short: position size = (account equity × risk %) ÷ stop distance. Work it through in this order.

1. Take current equity, not the starting balance. Recalculating as the account changes means risk shrinks automatically during a drawdown.
2. Multiply by your risk percentage to get the dollar risk. On a $20,000 account at 1%, that is $200.
3. Set the stop where the trade idea is wrong, based on the chart rather than on how much you want to make.
4. Measure the stop distance in points, pips or cents.
5. Divide dollar risk by stop distance. A 20-point stop on an S&P 500 CFD gives $200 ÷ 20 = $10 per point.
6. Check the exposure and margin. At an illustrative index level of 6,000, $10 per point is $60,000 of exposure. At ASIC's 20:1 retail cap for major indices, the margin is $3,000, or 15% of the account, even though the planned loss is only 1%.
7. Allow for costs and slippage. Spreads and fills beyond the stop add to the real loss, so some traders include them in the risk figure.

Step 6 is the part people skip. The 1% rule controls the planned loss; it does not make a leveraged position small. A gap through the stop can produce a loss several times larger than planned.

Why are drawdowns so hard to recover from?

Because the gain needed to recover is calculated on a smaller balance. Lose 50% and the remaining half has to double just to get back to where you started. The arithmetic is unforgiving and gets worse the deeper the hole.

The required gain is the drawdown divided by what is left. A 10% drawdown is an annoyance. A 50% drawdown usually ends a trading plan, because few strategies can double an account without taking even more risk.

How fast do losing streaks add up at different risk levels?

This is where the size of the number matters. The table shows the drawdown after a run of consecutive losses, with risk recalculated on the remaining balance after each loss. It is illustrative arithmetic.

At 1%, ten straight losses leave the account down about 10%, which needs an 11% gain to recover. At 5%, the same streak means a 40% drawdown and a 67% climb back. Same trader, same setups, very different outcome.

How likely is a long losing streak?

More likely than most people expect. Assuming each trade is independent, a trader who wins 50% of the time has roughly a 38% chance of hitting eight or more losses in a row at some point across 250 trades. At a 40% win rate, that chance rises to about 82%. Across 500 trades, the probability of a ten-loss streak is about 22% at a 50% win rate and about 71% at 40%.

These figures are calculated, not observed, and real trades are not perfectly independent: losses tend to cluster when market conditions stop suiting a strategy, which can make streaks worse. The point stands either way. A sizing rule has to survive the streak you have not seen yet. A trading journal that records your longest losing run is the best evidence of what your own strategy can produce.

Is 1% the right number, or just a convention?

It is a convention, not a law. The mathematical background comes from John Kelly's 1956 paper on betting and information, which showed that a gambler who bets everything on each favourable bet maximises expected wealth but will almost certainly go broke, whereas betting a fraction of capital each time maximises the long-run growth rate (Kelly, Bell System Technical Journal, 1956). For an even-money bet, that growth-maximising fraction equals the probability of winning minus the probability of losing.

The catch is that Kelly assumes you know your true odds. Traders only have estimates. Using illustrative arithmetic, a trader with a genuine 55% win rate on even-money trades has a growth-maximising fraction of 10%. Betting 20%, double that, gives roughly zero long-run growth despite the edge, and anything larger shrinks the account over time. Overestimate your edge and the "optimal" bet quietly becomes a losing one. Small fixed fractions like 0.5% to 1% sit far below these levels, trading some growth for a much lower chance of a ruinous drawdown.

When might 1% be too much?

• Correlated positions. Being long both the S&P 500 and the Nasdaq-100 is close to one bet: Nasdaq reports a 93% correlation of daily returns between them from 2007 to 2025 (Nasdaq Global Indexes). Two 1% trades can behave like one 2% trade. See Nasdaq 100 vs S&P 500 volatility.
• Fast markets and gaps. A triggered stop becomes a market order and can fill at a different price in a fast-moving market (Investor.gov), so the real loss can exceed 1%. This is especially relevant when scalping the US500 at the open.
• Tight external limits. Prop firm evaluations often cap daily and total drawdown, which leaves little room for a streak; prop firm challenge rules explains the trap.
• A new or untested strategy. Without a meaningful record, you do not know the win rate or the typical streak length.

What are the most common position sizing mistakes?

• Confusing position value with risk. 1% of the account in a position is not the same as 1% risk.
• Widening the stop after sizing. Doubling the stop distance doubles the risk. The psychology of the stop-loss explains why traders do it anyway.
• Raising size to win back losses. Increasing risk after a losing run accelerates the drawdown the rule is meant to prevent.
• Sizing from the starting balance. Keeping dollar risk fixed while the account shrinks raises the percentage risk exactly when it should fall.
• Ignoring leverage limits and margin. A correctly sized trade can still tie up a large share of the account in margin.

How does leverage change the picture for Australian traders?

Leverage magnifies losses. ASIC's product intervention order, in force since 29 March 2021 and extended to 23 May 2027, caps retail CFD leverage at 30:1 for major currency pairs, 20:1 for minor currency pairs, gold and major stock indices, 10:1 for other commodities and minor indices, 5:1 for shares and 2:1 for crypto-assets. It also standardises margin close-outs and requires negative balance protection, limiting retail losses to the funds in the CFD account (ASIC, 2020; ASIC, 2022).

Even with those limits, most retail CFD traders lose money. ASIC's 2017 review found 72% of CFD clients and 63% of margin FX clients lost money (ASIC, 2019), and half of retail CFD accounts were still loss-making in the first three months after the leverage caps began (ASIC, 2021). The 1% rule does not create an edge. It only decides how long you can afford to find out whether you have one. Why day traders fail: the maths of over-leveraging covers what happens when sizing is ignored.