Interested in trading foreign currency exchange markets but don't have the time or know-how to trade forex? Forex PAMM accounts may be a good choice for you. (Related reading: Introduction to Currency Trading)
What is a PAMM account?
Percentage allocation management module, also known as percentage allocation money management or PAMM, is a form of pooled money forex trading. An investor gets to allocate his or her money in desired proportion to the qualified trader(s)/money manager(s) of his or her choice. These traders/managers may manage multiple forex trading accounts using their own capital and such pooled moneys, with an aim to generate profits.
To demonstrate PAMM accounts further, let’s look at an example:
The participants in the PAMM Account setup:
The investors (say Peter, Paul, and Phil) are interested in reaping profits from forex trading, but they either don't have time to devote to trading activities or don’t have sufficient knowledge to trade forex. Enter the professional money managers (Marcus and Mathew), who have expertise in trading and managing other people’s money (like a mutual fund manager), along with their individual trading capital. The forex trading firm signs up Marcus and Mathew as money managers for managing other investors’ money. The investors (Peter, Paul and Phil) also signup with Limited Power of Attorney (LPOA). The crux of the signed agreement is that investors agree to take the risk for the forex trades, by giving their capital to their chosen money manager who will use the pooled money to trade forex per his trading style and strategy. It also states how much the money (or percentage) the manager will charge as his take for offering this service.
For simplicity of example, let’s assume that all three investors chose Marcus to manage their share of money for forex trading and Marcus charges 10% of the profit. Here is what the share from each investor and the manager's own trading capital in the total pool looks like:
In terms of percentage contribution to the total pooled PAMM fund of $ 15,000, each investor has the following share:
Paul = $4,000 / $15,000 = 26.67% and similarly,
Peter = 23.33%
Phil = 16.67%
Marcus = 33.33%
(The sum total of all shares in the pool always remains 1 or 100%.)
Suppose one trading term passes (e.g., a month) and Marcus manages to make a cool 30% profit on his pool, which now stands at $19,500 ($15,000 + 30% profit or $4,500).
He takes away his 10% charge on profit or $450. The remaining profit of $4,050 is distributed to all investors based on what percent they each have in the total pool:
Paul = $4,050 * 26.67% = $1,080
Peter =$4,050 * 23.33% = $945
Phil = $4,050 * 16.67% = $675
Marcus = $4,050 * 33.33% = $1,350
Total = $19,050
Assume that because of the first term stellar performance of 30% returns, all three investors decide to continue with Marcus for another term. Paul and Peter stay invested with their (original + returns) amount, while Phil cashes out the profit, leaving only his original investment of $2,500. Peter also refers a friend, Pike, to join the pool, and Pike brings $2,625. Another new investor, Pam, signs up and selects Marcus to manage her $1,000. The total trading pool for Marcus is now = $22,000.
Percentage share for each investor:
Paul = $5,080/22,000 = 23.09%
Peter = 20.20%
Phil = 11.36%
Marcus = 28.86%
Pike = 11.93%
Pam = 4.55%
Marcus manages a 15% return during this term (15% * $22,000 = $3,300) and takes his 10% ($330). The remaining profit of $2,970 will be available to individual investors per their respective share:
Paul = 23.09% * $2,970 = $685.80
Peter = $600.08
Phil = $337.50
Marcus = $857.25
Pike = $354.38
Pam = $135.00
Total pooled money in the fund = $24,970.
Next, let's assume all the investors continue with the above investments for another month with Marcus, who unfortunately loses 20%. This means no 10% profit share for Marcus and each investor will see their share of the pooled investment drop by 20%, bringing the pooled money down $4994 to $19,976.
Paul = $5,765.8 - 20% = $4,612.64
Peter = $4,036.06
Phil = $2,270.00
Marcus = $5,765.80
Pike = $2,383.50
Pam = $908.00
Total pooled PAMM fund for Marcus = $19,976
At the end of each term, investor has the choice to continue with the money manager, switch to another money manager partially or fully, or cash out the capital.
The role of forex broker is to:
How do investors’ select money managers?
Brokerage firms offer numerous way for investors to make an informed choice, including detailed CVs, qualifications, past performances in terms of returns, amount of money managed, numbers of associated investors, positive/negative reviews, etc. about their traders/ money managers. In addition, there are outside rating systems. Here is a screenshot from Alpari's PAMM account rating system:
Here are a few things to bear in mind:
The Bottom Line
PAMM accounts are a simple hassle-free method for individuals to pick and choose their money managers for forex trading. With these accounts, investors benefit from profits with minimal involvement. However, PAMM accounts also carry the risks of capital loss, based on a money manager's performance. After understanding their desired profit potential and risk aversion, individuals should perform due diligence in selecting a PAMM account broker and money manager.