There is one tool that will help you minimize your losses: trading risk management. It is important to understand that all traders have exposure to risk; there is no way to avoid it completely. However, if you know how to manage it correctly, your trading strategy can be more efficient.
Keep in mind that some people’s view of success in trading is purely about being profitable in their operations. However, it is more advisable to develop a strategy that, in addition to focusing on profitability, gives you the option to limit the risk in operations.
What is risk management in trading?
Risk management in trading is a series of strategies used to reduce losses when trading in different markets, and to protect a trader’s capital. It is important to keep in mind that in the world of trading there is always that possibility, for that reason it is important to learn it correctly in order to lose as little as possible and, at the same time, to maximize profits in operations.
It is important to learn the technical side. This involves understanding the capital, the market you will operate in, and the type of financial instrument. Likewise, to know the ways to stop losses with the “stop loss”.
On the other hand, developing the right mindset is also crucial. This aspect will be essential in the world of trading, because it will serve to control emotions when trading in the markets.
This aspect should always be considered in trading risk control, as it is a key element in facing losses. You must have emotional stability, because a wrong reaction could increase panic and make you make a mistake that results in the compromise of your financial health.
What are the risks of trading?
Trading can be exciting, however, it takes practice, experience and professionalism. If you trade the wrong way, you are likely to lose your money very easily and end up with a bad feeling about trading.
Therefore, you have to keep in mind that the world of trading can be based on probabilities, and it is necessary to know how the financial markets behave. There is no way to be sure about what can happen, prices can go up or down suddenly and due to different factors. So, if you trade without any clear strategy or action plan, without having practiced, without having a correct risk management and without basic knowledge, there is a high possibility of losing all your money in a short time.
What is stop loss and how to calculate it?
A stop loss is a tool that sets the maximum loss acceptable in a financial asset trade. It is undoubtedly something that every trader should know and implement in the strategy, as it is a very efficient way to protect the capital.
There is the possibility of setting a stop-loss automatically with the broker you use, for example with OnEquity, thus limiting potential losses in case the market does not behave positively.
There is no concrete answer to calculate the stop loss, this depends exclusively on each person and his trading activity. For the stop loss it is important to consider aspects such as risk tolerance, capital, market and financial instrument. These elements will help you to have an overview of the market activity and also allow you to calculate precisely how much you can afford to lose in a day and for each transaction.
How to manage risk in trading?
There are many ways that can be used to manage risk in trading. In this article we are going to talk about five in particular:
Use Stop Loss and Take Profit
As we mentioned earlier, the stop loss is the automatic limit that can be set on the amount of money you can afford to lose on a trade, this type of order minimizes losses and keeps risk to a minimum. Similarly, an order known as take profit can be established, in which, according to the positive price expectation of a financial instrument, the limit at which the operation must be stopped in order to obtain profits can be established.
Plan your operations
Learning about technical analysis can be the key to understand the trends and patterns that follow the prices of financial assets. Similarly, use tools to perform pre-market analysis, that is, understand how the financial market has behaved and what kind of movements are most likely to generate profits and, of course, minimize losses.
Diversify your investments
The risk is high when the investment portfolio is composed of a reduced number of assets, this is due to the fact that when depending exclusively on a few assets, if their prices go down, the total price of the investment portfolio will also go down. For this reason, it is important to invest in different assets, in this way if some assets go down in price, the others may go up, thus generating a balance and at the same time reducing the risk of losses.
Use the one percent rule
This rule works to establish the amount that can be used to perform a trading operation. Only 1% of the total capital should be taken and that amount will be the maximum that can be used in a trade. It is a way to control the risk, since it would be operating with a minimum amount that therefore, should not commit all the investment capital.
Calculate the return on investment
This calculation will serve to visualize the possible profitability when operating with a specific financial asset. This possibility should be kept in mind when making market movements, however, it should not be forgotten that these are not exact results, they are only approximations. A good strategy is to accompany this calculation with technical analysis and pre-market activity.
Final thoughts
Managing risk correctly is vital for day to day operations because it gives the possibility of losing the least amount of money possible, it is a way to establish the limits in the activity and to know how far you can go without compromising the capital. If there is an adequate relation between risk and profit, good yields can be obtained from the operations.
Among the best ratio in relation to risk-reward is one to two, this means that, one risks one to gain two, it is one of the simplest and most important that exist.
Likewise, through the strategies mentioned in this article, developing a risk management plan should be much simpler, allowing you to adapt it to your objectives and the type of trader you are. The most important thing is to be realistic, not to go on a page, to make an analysis, ask yourself questions and make a plan based on a market analysis.
