23. How to manage Risk
It is time to talk about RISK. What is risk? A situation when you are exposed to some sort of danger.
The process of identifying, analysing and then mitigating the uncertainty is known as Risk Management. In Forex market or any other market for that matter, it is the trader who knows that there is a certain level of uncertainty and he can decide how we wants to tackle it.
When a trader trades without managing risk he is actually gambling. It is like you are ready to bear certain amount of loss for that big money. But when you manage your risk, you are speculating and planning for the long run and not the final jackpot. Forex market is all about money and when there is money involved, there is a risk of loss. With technical analysis and fundamental analysis, you can do your risk management. Bear in mind that risk management won’t avoid the risk, but you can be under control of the situation by the time you reach there.
When you plan to enter into trading how much trading capital do you think you would need? Didn’t think about it yet? No problem, we will give you an overview of the stuffs you would like to think about. Traders often think of making money with a small amount of capital as soon as they enter into the Forex market. But with a small amount of capital, traders usually end up taking on huge risk. By the way if you still are worried about losing money because you are yet to learn stuffs, we suggest that you wait and spend time learning before entering into trading.
- First and foremost as we mentioned learning and gaining knowledge is very important to start with. There are lot of paid courses and books available to help you prepare yourself. But thanks to internet, we have all the information handy for those of you who don’t want to spend money in this initial stage. So, think when you are learning and apply your knowledge while you climb up the ladder of Forex Market.
- The next thing which needs money would be the tools you would use for technical analysis. Most of the basic charting software and tools are provided by the broker of your trading platform. But you might have to pay for any advanced tools or indicators with better functionalities.
- For doing fundamental analysis you need to have access to news. Again, you can refer to FX news from your Forex broker. But you might have to pay for faster and accurate news feeds. Gaining faster insight on the market condition definitely puts you one step ahead of others.
- Lastly, to start trading you need money in your account. With proper risk management techniques you can start trading with $50k to $100k trading capital. Losses are part of trading and you need to have enough capital to cope up with the losses.
Now how much should you risk. Risk per trade is normally a small percentage of the trader’s total capital. A good percentage would be 2% of your available trading capital. So if you have $10,000 to start with. The maximum loss you can bear should be 2% of the capital which is $200 per trade. You still have money left for further trades. With proper system in place, you still have lots of chances to make profit. Your aim should be to protect your account. The bigger loss you make, the tougher it is to get back to the same amount you started with.
Ok now it is time to throw some light on risk and reward ratio. This is nothing but a relationship between measures of how much would you loose from a losing trade and how much would you gain from a winning trade.
It is considered that you have more chances of making profits by following a 1:3 risk : reward ratio. This means if you can make 3 times more than what you are risking, you ideally have good chances of being profitable in the long run.
As you can see in the self-explanatory example above, even though you won less number of trades, you still made a profit of $3000. So always bear in mind that when you are trading with a good risk to reward ratio, you have more chances of making money even if you don’t win much of your trades.
When you trade, you definitely can’t go with a set ratio for risk to reward. You will have to adjust this ratio according to the time frames, the kind of position you are entering into, your trading platform and so many other factors.
Risk is unavoidable in any trade you enter. But as long as you are aware of the amplitude of that risk you can manage it. And to get rewards, it is fine to take up some risk. What do you say? Just follow the best practices and be ready to enter into the exciting world of Forex market full of ups and downs, but yet a joyful ride though.