How do I control my trading risk?

RISK CONTROL TECHNIQUES IN TRADING

Risk is ever present in trading, just as it is in other areas of life. The good news is that the risk inherent in trading can be controlled effectively, thus enabling you to be permanently triumphant.

No-one on earth can trade repeatedly without any loss, no matter the trading strategy adopted. If you had a speculative method that could not lose a single trade, all the money in the world would eventually go to you, and that would be completely unfair. If there were no possibilities of losses in the market, then the market would not exist at all.

For you to make money in the markets, you need to be smarter than many other traders, and employing effective risk control methods will also give you a huge edge over other traders.

For every good strategy, there are periods of losses and there are periods of winnings. There would be periods when everything you touch in the market will become gold; whereas there are periods when the market will let you know that you are not hot, even if you think you are. What can you then do?

RISK CONTROL METHODS

Small Lot Sizes:
Risk as small as possible per trade. Go for small, but consistent profits, not home runs. Betting big pays richly if you win, but what happens if you lose? There is no 100% guarantee that your next trade will be a winner, and you do not want to lose big, in case you are wrong. The trick is to lose as small as possible during a losing streak and gain as much as possible during a winning streak (good risk to reward ratio). Small losses are easy to recover: big losses are not. So make sure you do not have large losses in the first place. With an account balance of $1000 or less, I use 0.01 lots. With an account balance of $20,000, a position size of 0.2 lots would be used. This is conservative, but it has worked well for me.

Stop Loss:
In case a trade is not going your way, this is an order that takes you out of the market at a predetermined price level. A stop loss should not be too tight, so that normal market fluctuations will not take you out of the market prematurely. A stop loss should not be also too wide, so that there would not be a painful loss in case price decides to go protractedly against you. An optimal stop is thus better (not too wide and not too close to the current price). Some traders hate stop loss because one can sometimes be taken out of the market and then see price going in one’s direction. Nonetheless, there would be times when stops will save your capital from total ruin, some market may go decidedly against you and will not come back to your entry level again (not in even your lifetime). So stops are your life insurance policy. Get stopped out at a small loss and look for next opportunities.

Take Profit:
That is the target you set for your trade – a stop put in place to take you out of the market once price reaches a certain level in your favor. Even when you are not online and your trading platform is closed, Take Profit will close your profit for you once price reaches your targeted level. The downside, is that price may sometimes reverse before it reaches your target; or price may continue going in your direction once it has taken you out, albeit with a profit.

Breakeven Stop:
This is a tool that helps you remove the risk on a trade. Let us say you place a “sell” trade on Gold (XAUUSD) at 2060.06, and place your Stop Loss at 2085.00, and Gold begins to trend downwards, now trading at 1950.63. You will then adjust your Stop Loss to 2060.06, which is your entry price. That is a breakeven stop. You have removed the risk of loss on that trade, and the worst that can happen is for you to be stopped out with no profit and no loss, in case the market reverses against you. If the market does not reverse, you will then enjoy your risk-free trade!

Trailing Stop:
A trailing stop can be defined as a modification of your Stop Loss that can be set at a defined percentage or pips amount away from the market price. In June and July 2020, USDCHF dropped by over 500 pips. If I entered the market at 0.9607, and price later moved to 0.9360 (over 240 pips), I might want to lock some of the profits while riding the bearish trend further. Therefore I would set a trailing stop of 80 pips or 110 pips. Should the market continue moving in my favor, I would make more gains, as more of the profits are locked, until my target is hit or I close the trade myself. In case of a reversal against me, I would be taken out of the market, but some of the profits would be salvaged as well.

Staying Aside:
Another great way to control your risk and reduce drawdowns is to know when to be in the market and when not to be in the market. There are months of the year when trend following works and there are months when it does not work. There are times when mean-reversion trading works and there are times when it does not work. Recognize when your system is temporarily out of sync with the markets, and stay out of the market. Know when you are supposed to be in the market, and when you are not supposed to open trades. This comes only with years of experience.

Conclusively, there are no perfect risk control tools, for each tool has its pros and cons. But when you employ the risk control measures explained above, you will enjoy everlasting success in the markets. Sure, there would be occasional, transitory setbacks, but it would be easier for you to recover them eventually and surge ahead with more profits.

It is not easy to be green… May your trades be green.

Source: https://learn2.trade/