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Learn To Manage Your Risk in Forex Trading

Author: Administrator Account/Wednesday, February 24, 2010/Categories: Currency

Learn To Manage Your Risk in Forex Trading

Trading is certainly one of the most difficult tasks to yield money from. Especially when people who are new to financial markets, hear about something like Forex market, they assume that it’s a way to get quick and sure shot returns. But that’s not the complete truth. Certainly, one can make reasonable profits by trading in forex but to achieve the same trader has to keep proper risk management strategy in place and utmost discipline.

Risk is Everywhere! 

Just rethink about any business plan or opportunity you have come across. Whether you agree or not, every business opportunity involves risk. The same way trading forex or currencies also involves significant amount of risk. So by applying appropriate risk management techniques you can’t expect to remove risk completely, but you certainly can minimise it.

How to Minimise Risk in Trading Forex 

Risk management in forex trading or investment is nothing but managing your investments or open positions in such a manner that keeps you protected against any type of risks factors like high market volatility, low liquidity, etc. Here’re some important points that will give you an edge over other traders:

1) Always Trade with Your Risk Capital: Risk capital is the amount of money you have that you can risk or afford to lose. Or in other words, it’s the money which if lost, will not deter you from maintaining your usual lifestyle.

2) Never Trade with High Leverage: Derivatives are the instruments that provide an edge to traders and speculators. Leverage is the extra money that your broker lends you to trade with. For example if a trader deposits twenty thousand rupee margin money to broker then your broker may allow you to take trade positions that‘s worth more than twenty thousand. Trading forex with high leverage can yield you high returns however the same can wipe your whole trading account with significant losses very quickly. Therefore it is recommended to not trade with high leverage.

3) Avoid Overnight Positions: Indian exchanges allow you to trade in currencies from 9 am to 5 pm Indian standard time. And because quite often currencies witness high volatility during US session that results in a gap up or gap down opening of a currency pair in Indian session. Therefore it’s better to avoid holding overnight trade positions until and unless you are quite confident about the overnight trend. In case you are holding an overnight position then make sure that you only keep only limited quantity as open position to minimize your risk.

4) Appropriate Position Sizing: Positions sizing has to be done according to your portfolio and risk appetite. It’s always better to keep your position size fixed and constant to yield good results from trading forex. For example, let’s assume you make 20 paisa profit in your first trade of the day with 10 lots. Now you decide to increase the positions size to 20 lots in your next trade to gains more but if that trade position goes against you by losing 20 paisa, then your second trade will wipe your profits and additionally at the end of the day you will end up with 20 paisa loss on 10 lots. Therefore to keep your risk minimized trade with a fixed lot size in each and every trade because you never know which position will go against you. Secondly, your position sizing also compliments your nature of trading. If you are a positional trader and hold positions overnight then you need to be extra cautions. You should try to keep your position size small to minimize your risk.

5) Know Your Risk And Reward: Before entering a trade position, it is crucial for a trader to understand the risks involved in that particular trade. You need to know the loss in case it goes against you and the reward in case it goes in your favour. Always try to maintain minimum 1:2. That means your gains should be at least twice the amount you’re risking in a trade. In addition try not to let your risk exceed more than 2-4% for any single trade of your total account balance or portfolio.

6) Pre Define and Follow Strict Stop Losses: While entering a trade, make sure that you have predefined the exit point where you will exit if the trade goes against you. Always predefine your stop loss and follow the same strictly. Psychologically while holding a position, you may feel like waiting for the market to turn in your favour by changing or exceeding the predefined stop loss but be aware that this is one of the most common and disastrous mistake majority of novice traders make.

7) Focused Research is The Key: No matter how active you are in following the market related news and analyzing the same, it’s difficult for an individual to track all relevant economic and political events happening around the world, and analyze the impact of this on currencies. Therefore it’s better to take help from research professionals. In India, there are a handful of broking firms that have in-house research teams working to recommend profitable trading strategies to their clients. This way you can stay updated and get professional research advice without paying extra.

To become successful in forex trading, traders must strictly follow these risk management techniques. Concisely, trading as a business can make your money grow faster expecting decent returns by making efforts in right direction and managing your risk the right way.

To be continued… 

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