Interested in trading foreign currency exchangemarkets, but don't have the time or know-how totrade forex? ForexPAMM accounts may be a good choice for you.
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 their capital, or parts of it, to the qualified trader(s)/money manager(s) of their choosing. These traders/managers may manage multiple forex trading accounts using their capital and such pooled money, with an aim to generate profits.
To demonstrate how PAMM accounts work in practice, let’s look at a theoretical example:
The Participants in the PAMM Account Setup
- Forex broker
- Trader(s) / money manager(s)
- Investor(s)
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 (similar to 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 sign up with Limited Power of Attorney (LPOA). The crux of the signed agreement is that investors agree to take the risk for the forex trades, and allow a money manager to trade on their behalf. It also states how much (money or performance percentage) the manager will charge for his service.
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.
In terms of percentage contribution to the total pooled PAMM fund of $ 15,000, each investor has the following share. Remember, the sum total of all shares in the pool always remains 1 or 100%:
- Paul = $4,000 / $15,000 = 26.67%
- Peter = $3,500 / $15,000 = 23.33%
- Phil = $2,500 / $15,000 = 16.67%
- Marcus (Manager) = $5,000 / $15,000 = 33.33%
Suppose one trading term passes (e.g., a month) and Marcus manages to make a cool 30% profit on the 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 (Manager) = $4,050 * 33.33% = $1,350
Assume that because of the first term’s stellar 30% gain, all three investors decide to continue with Marcus for another term. Paul and Peter stay invested with their full amount (original investment + gains), 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 in $2,625. Another new investor, Pam, signs up and selects Marcus to manage her $1,000.
Let’s break down the new numbers:
Paul and Peter keep their original investment and reinvest the profits:
- Paul: $4,000 + $1,080 = $5,080
- Peter: $3,500 + $945 = $4,445
Phil cashes out his profit:
- Phil: $3,175 - $675 = $2,500 (returns to original investment)
New investors:
- Pike: $2,625
- Pam: $1,000
Total new pool:
- $5,080 (Paul) + $4,445 (Peter) + $2,500 (Phil) + $6,350 (Marcus) + $2,625 (Pike) + $1,000 (Pam) = $22,000
New percentage shares for each investor:
- Paul = $5,080 / $22,000 = 23.09%
- Peter = $4,445 / $22,000 = 20.20%
- Phil = $2,500 / $22,000 = 11.36%
- Marcus (Manager) = $6,350 / $22,000 = 28.86%
- Pike = $2,625 / $22,000 = 11.93%
- Pam = $1,000 / $22,000 = 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 the investors per their respective share:
- Paul = 23.09% * $2,970 = $685.80
- Peter = 20.20% * $2,970 = $600.08
- Phil = 11.36% * $2,970 = $337.50
- Marcus (Manager) = 28.86% * 2,970 = $857.25
- Pike = 11.93% * $2,970 = $354.38
- Pam = 4.55% * 2,970 = $135.00
The total pool now stands at $24,970, and the breakdown by participant is as follows:
- Paul = $5,080 + $685.80 = $5,765.80
- Peter = $4,445 + $600.08 = $5,045.08
- Phil = $2,500 + $337.50 = $2,837.50
- Marcus (Manager) = $6,350 + $857.25 = $7,207.25
- Pike = $2,625 + $354.38 = $2,979.38
- Pam = $1,000 + $135 = $1,135.00
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 $4,994 to $19,976:
- Paul = $5,765.80 - 20% = $4,612.64
- Peter = $5,045.08 - 20% = $4,036.06
- Phil = $2,837.50 - 20% = $2,270.00
- Marcus (Manager) = $7,207.25 - 20% = $5,765.80
- Pike = $2,979.38 - 20% = $2,383.50
- Pam = $1,135 - 20% = $908.00
At the end of each term, investors have the choice to continue with the money manager, switch to another money manager partially or fully, or cash out the capital.
The role of a forex broker is to:
- Provide a secure, reliable platform that allows money managers and investors to connect.
- Facilitate the trading activities of money managers within the realms of allowed regulations.
- Facilitate the account keeping, deposits, withdrawals, and other related activities.
- Allow transparent review, feedback, rating, and related mechanisms for investors and money managers to select and interact with each other.
How Do Investors Select Money Managers?
Brokerage firms offer numerous ways for investors to make an informed choice, including detailed CVs, qualifications, past performances in terms of returns, amounts 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:
:max_bytes(150000):strip_icc()/ScreenShot2021-05-24at12.41.02PM-c40ef1a41f454abcbf54367fbf9c6d42.png "How Forex PAMM Accounts Work (1)")
Things to Keep in Mind About Investors
- Usually, the investors have no choice of forex trading assets, except for those offered by the money manager.
- They carry the risk of losing their capital due to trading activities of money managers, but also enjoy the potential of returns if the manager performs well.
Things to Keep in Mind About Money Managers
- Have access to the money only in their pool. They cannot pull money from investors’ trading accounts. For example, Paul may have a total of $9,000 in his forex trading account, but since he has allocated only $4,000 to Marcus, Marcus cannot trade beyond that $4,000.
- Can set a minimum and a maximum amount criteria for investors.
- Can accept or deny new investors as they wish.
The Bottom Line
PAMM accounts are a simple method for individuals to invest their capital with 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, if a manager underperforms. After understanding their desired profit potential and risk aversion, individuals should perform due diligence in selecting a PAMM account broker and money manager.
Investopedia does not provide tax, investment, or financial services and advice. The information is presented without consideration of the investment objectives, risk tolerance, or financial circ*mstances of any specific investor and might not be suitable for all investors. Investing involves risk, including the possible loss of principal.
