DEFINITION of '2% Rule'

A trading practice where an investor should concentrate no more than 2% of available capital on a single trade. To follow the 2% rule an investor first calculates 2% of the available trading capital, called the capital at risk. Brokerage fees for buying and selling shares are then factored into the capital at risk, and this figure is divided by the current share price. The resulting figure is the total amount of shares that can be purchased. If market conditions change and result in the trader losing the total value of that trade the downside exposure is only 2%, since the value of the original trade was limited to 2% of the total amount of trading capital available.

BREAKING DOWN '2% Rule'

The 2% rule is a restriction created by investors in order to stay within the boundaries of a trading system. For example, an investor with $100,000 will purchase no more than $2,000 - or 2% of the value of the account - of a particular investment. By knowing the upper limit that can be risked, the investor can work backwards to determine the total number of shares that can be purchased. The investor can also use stop-loss orders to limit downside risk.

RELATED TERMS
  1. Share Capital

    Funds raised by issuing shares in return for cash or other considerations. ...
  2. Authorized Share Capital

    The number of stock units that a publicly traded company can ...
  3. Capital Markets

    Capital markets are markets for buying and selling equity and ...
  4. Risk Capital

    Investment funds allocated to speculative activity. Risk capital ...
  5. Capital Gains Tax

    A type of tax levied on capital gains incurred by individuals ...
  6. Trading Capital

    The amount of money allotted to buying and selling various securities. ...
Related Articles
  1. Small Business

    Understanding Capital

    Capital has a variety of meanings, but it generally refers to financial resources.
  2. Investing

    What's Share Capital?

    Share capital, also called equity financing, is the total amount of money and property a company has received for selling its shares to shareholders.
  3. Insights

    What's Economic Capital?

    While regulatory and economic capital use some of the same measurements of risk to determine how much capital a firm should hold in reserve, economic capital uses more realistic measures.
  4. Small Business

    Contrasting Paid-Up Capital And Share Capital

    Before a publicly traded company can sell stock, it must set a limit on the amount of capital it’s authorized to raise by selling those shares.
  5. Trading

    Top 10 Rules For Successful Trading

    Whether you're a novice or an expert, these 10 rules should be the backbone of your trading career.
  6. Managing Wealth

    How Interest Rates Affect Property Values

    Along with their impact on mortgages, interest rates affect capital flows, the supply and demand for capital, and an investor’s required rate of return.
  7. Investing

    American Capital Sells Itself to 2 Companies

    Prominent business development company American Capital (NASDAQ: ACAS) is soon to be no more. The company has agreed to sell its assets to a pair of peers, fellow BDC Ares Capital (NASDAQ: ARCC) ...
  8. Investing

    Calculating Days Working Capital

    A company’s days working capital ratio shows how many days it takes to convert working capital into revenue.
  9. Investing

    Explaining Capital Employed

    Generally, capital employed refers to all of the assets used in a business that contribute to the company’s ability to earn revenue.
  10. Small Business

    Explaining Cost Of Capital

    Cost of capital is the cost of funds used to finance a business.
RELATED FAQS
  1. What is the difference between issued share capital and subscribed share capital?

    Find out about the difference between subscribed share capital and issued share capital, including an explanation of the ... Read Answer >>
  2. What types of capital are not considered share capital?

    Find out what types of capital are not considered share capital, including an explanation of the different types of share ... Read Answer >>
  3. What is the smallest amount of shares I can buy?

    Understand the steps needed for an investor to open a brokerage account and make a trade. Learn what the smallest amount ... Read Answer >>
  4. What is the cost of a share purchase?

    Find out how the total price of a share purchase is dictated by the current stock price and the fees the brokerage company ... Read Answer >>
  5. What is the difference between financial capital and economic capital?

    Read about the differences between types of financial capital, which companies use to raise money, and economic capital models ... Read Answer >>
  6. When looking at my online broker account, I see an account value, cash value and ...

    When looking at some online brokerage accounts, there are a few figures that may be confusing, including account value, cash ... Read Answer >>
Hot Definitions
  1. IRS Publication 970

    A document published by the Internal Revenue Service (IRS) that provides information on tax benefits available to students ...
  2. Federal Direct Loan Program

    A program that provides low-interest loans to postsecondary students and their parents. The William D. Ford Federal Direct ...
  3. Cash Flow

    The net amount of cash and cash-equivalents moving into and out of a business. Positive cash flow indicates that a company's ...
  4. PLUS Loan

    A low-cost student loan offered to parents of students currently enrolled in post-secondary education. With a PLUS Loan, ...
  5. Graduate Record Examination - GRE

    A standardized exam used to measure one's aptitude for abstract thinking in the areas of analytical writing, mathematics ...
  6. Graduate Management Admission Test - GMAT

    A standardized test intended to measure a test taker's aptitude in mathematics and the English language. The GMAT is most ...
Trading Center