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When trading, we certainly cannot avoid the emergence of risks that could harm us. Therefore, since this is inevitable, we must create a trading risk management so that later we can determine when to cut Loss and when we can continue. But, before that, we must know the trading risks we will experience later. From several sources, these trading risks include:
Fluctuation risk is the Loss incurred due to a fall in the share price in the secondary market due to micro factors such as a business sector that is not in demand by the market, suspension or internal company problems, or macro factors such as poor economic conditions in Indonesia. However, this risk is usually temporary.
Stock liquidity risk is the Loss that a trader will experience when the stock does not have sufficient transactions in the secondary market. This can happen for several reasons, such as poor company performance, Loss of market confidence, etc. If this happens, the share price will fall even to a value lower than the lowest price allowed in the stock market.
Capital Loss is a situation where we have to deal with the selling price of the stock being lower than the purchase price. The risk of company bankruptcy is sporadic, but we must remember its existence. If this risk occurs, then all of our assets will disappear. Therefore, we must analyze the company before trading.
Definition of Risk Management
Risk management is a systematic approach by traders to find and treat risks that will inevitably be experienced at some point. In trading, trading risk management is also defined as a step taken by traders who experience trading risks, which of course, are 100% under the control of each trader. When determining risk management, traders should thoroughly consider internal and external conditions within themselves and not rely on others when trading risk management.
Now, to deal with the risks mentioned above, we must make management with standards tailored to our circumstances.
Things to Look for in Trading Risk Management
Risk management is one of the essential pillars of forex trading. A trader should think about this before starting. It is not about how much profit you can achieve but how long you can survive in the highly competitive forex market.
We often see cases where a trader has a good trading strategy. However, instead of making a profit, he makes a loss. This can only happen if a trader has poor money management. Examples often are not setting a Stop Loss; a stop Loss is too tiny, so it is easily hit before the price reverses according to the trader’s initial forecast. And the Stop Loss continues to be widened in the hope that the trend will change according to the trader’s initial estimates.
Risk management is the management of risks inherent in trading by identifying them, assessing them, and knowing how to control them. You can’t control how much you profit on each trade, but you can control how much you might lose. Poor risk management is one of the main reasons why traders fail. Managing your risk exposure by knowing the do’s and don’ts will help you to prevent falling too deep or losing your trading capital. There are a variety of potential risks that you need to consider.
Good risk management is the key to capital preservation and requires thinking about how much money to use, how much to risk for each trade, how many trades to make per day, per week, and month and which stop levels to use for each type of setup you have. Sound risk management includes the earning/risk ratio requirements, how to carry out money management, how to use a balanced portfolio, and how to act correlatively between open trades. Traders who practice good risk management also consider loss limits per day, week, or month, calculating expectations for the overall trading strategy and avoiding the risk of ruin.
Not finished here, there are several things that traders should know in managing stock trading risks, including:
Realize Profits; There are many techniques for realizing a profit; it all depends on the type of trader one wants to be. But, of the wide varieties, traders can choose to be trend followers or swingers.
Being a trend follower means that a trader will let the profits accumulate if there is no trend reversal.
For example, a trader buys a stock at $1; then, the stock increases in price until it reaches $2.
Traders only need to sell if they are profitable as long as they do not touch the predetermined stop loss point.
While being a swinger, a trader will let the stock rise for a few days or weeks and then sell when the price has reached its highest value.
Avoid Risk or Reward Ratio; avoid using instinct to make a decision. Trading is not like gambling, and all decisions are made based on the results of the price analysis. Meanwhile, there are two ways of analyzing approaches that can be done by traders, namely technical analysis and fundamental analysis.
While Stock Installments and buying shares regularly can be considered risk management in stock trading.
This means that traders wait to buy shares with 100% value but at regular intervals, for example, 15%, then 20%, and so on, up to 100%, every time there is price confirmation.
Risk Management Strategies in a Losing Position
After we set the risk limits that we can take each transaction, in the next section, let’s discuss the strategies that can be applied when we face situations where the positions we take experience losses or floating losses.
In forex transactions, it is undeniable that there are times when prices move, not following the analysis we do; here are the strategies you can choose to deal with it.
First the Survival Strategy. In a defensive strategy, it means that you let the transaction position that you have is losing without taking any action. You can do this if you have considerable Equity. Because actually, we are still determining how big and how long we will experience this potential Loss.
This strategy is based on the assumption that no matter how down a price moves, it will eventually return to the price at which we took the trade. Only try to use this strategy if you have very little money. A lot of traders have gone bankrupt utilizing this strategy. It is better if we accept defeat and try to take a new transaction position.
Second, Stop Loss or Cut Loss. This Stop Loss strategy means accepting defeat within a specific limit. As explained above, even before a trader starts trading, he should determine the risk limit he can get.
By setting a stop loss point, when the price moves, some will be in the opposite direction of the position we took, then we quickly close the job and accept defeat.
Third, Stop Loss And Switch. The Stop Loss And Switch strategy, also known as Cut and Switch, is a strategy to accept defeat and open a new transaction position. We do this strategy to get a profit that can cover the losses we experienced before.
Fourth, Hedging. A hedging strategy is a technique that traders usually use to minimize losses. The hedging strategy is a locking strategy; if the price moves in the opposite direction to the position we have, we will immediately open a new position opposite to the initial post without closing the transaction we did before.
If we first have a long position, we will make a new sell transaction without closing our long position. Traders can repeat the hedging step until the risk is minimized. However, this strategy should be practiced by professional traders. It is easier if you accept the Loss and try to profit from the next transaction.
Fifth, Average. The Average or Averaging strategy is making new trades that are the same as the old ones. This strategy is quite simple; the trader only needs to add to his position to get more profit. In general, there are two types of Averaging processes. Averaging Down is when a trader adds to his work when the price moves in the opposite direction to the initial prediction. While Averaging Up is when a trader adds to his position at a higher price when the price moves up.
The Averaging Down strategy, in particular, requires substantial Equity because no one knows how long it will take for the price to go against the position. As predicted by our analysis, this strategy can bring in huge profits if the price eventually reverses.
The Importance of Risk Management in Forex Trading
These are the risk management strategies you can use. You can do this strategy even if you have yet to start forex trading or when you are already in a lost position when trading forex.
Understanding the various techniques or strategies you can use to carry out trading activities will benefit your daily life running forex trading.