- PPF Points
- 5,709
I define risk management as a set of rule-based principles you put in place to ensure you don't blow your trading account. As risk management is the most important part of trading, consider the following risk management tips:
Use proper position sizing
One of the the most important risk management tips is proper position sizing. You must learn choose your position size wisely. The golden rule is to risk no more than 1-2% of deposit for 1 trade. This means it can be lethal for your account to open a standard lot with just $1000 in your account.
For example, if 2 traders open accounts with the same initial amount of money – $20,000. And the first one risks 2% of his account on each trade, while the second one risks 10% of his account on each trade. If each trader has 10 losing trades in a row, the first one will have $16,675 left, while the second will remain with only $7,748.
The above example demonstrate the importance of proper position sizing. If fact, proper position sizing with leverage and stop loss form the foundation of good risk management.
Use little or no leverage
Leverage is the amount of money your broker borrows you to let you increase your purchasing power. A leverage of 1:200 means you can open a $200000 position (2 standard lot) with just $1000. In this case, you gain $1000 if the trade moves 50 pips in your favor. On the contrary, you lose the same amount if the trade moves against you with just 50 pips.
Imagine if you have just $1000 in your account. That means a total wipeout of your account with just 50 pips. I have seen brokers offering up to 1:3000 leverage. It's ridiculous, and you should avoid these types of offers. They are set up yo make you fail.
Employ proper stop loss
Trading without a stop loss is like driving a car with no brake at top speed - it's not going to end well. A good rule of thumb is to set your stop loss at a level that means you will lose no more than 2% of your trading balance for any given trade.
Once you've set your stop loss, you should never increase the loss margin. There's no point having a safety net in place if you aren't going to use it properly.
Maintain a good risk-reward ratio
The bigger the possible rewards, the more failed trades your account can withstand at a time. If you have 1:5 risk/reward ratio, one successful trade will sustain you through 5 bad trades with the same ratio.
Diversify your risks
You don’t have too “put your eggs in one basket”, because something may go wrong with this basket. The solution is to spread your risks across different currency pairs.
Be aware of currency correlations. For example, EUR/USD and USD/CHF have a high inverse correlation. If you sell EUR/USD and buy USD/CHF, you are exposed two times to the USD and in the same direction. It equates to being long 2 lots of USD. If the USD declines, both of your positions will be losing.
I hope find these tips helpful.
Use proper position sizing
One of the the most important risk management tips is proper position sizing. You must learn choose your position size wisely. The golden rule is to risk no more than 1-2% of deposit for 1 trade. This means it can be lethal for your account to open a standard lot with just $1000 in your account.
For example, if 2 traders open accounts with the same initial amount of money – $20,000. And the first one risks 2% of his account on each trade, while the second one risks 10% of his account on each trade. If each trader has 10 losing trades in a row, the first one will have $16,675 left, while the second will remain with only $7,748.
The above example demonstrate the importance of proper position sizing. If fact, proper position sizing with leverage and stop loss form the foundation of good risk management.
Use little or no leverage
Leverage is the amount of money your broker borrows you to let you increase your purchasing power. A leverage of 1:200 means you can open a $200000 position (2 standard lot) with just $1000. In this case, you gain $1000 if the trade moves 50 pips in your favor. On the contrary, you lose the same amount if the trade moves against you with just 50 pips.
Imagine if you have just $1000 in your account. That means a total wipeout of your account with just 50 pips. I have seen brokers offering up to 1:3000 leverage. It's ridiculous, and you should avoid these types of offers. They are set up yo make you fail.
Employ proper stop loss
Trading without a stop loss is like driving a car with no brake at top speed - it's not going to end well. A good rule of thumb is to set your stop loss at a level that means you will lose no more than 2% of your trading balance for any given trade.
Once you've set your stop loss, you should never increase the loss margin. There's no point having a safety net in place if you aren't going to use it properly.
Maintain a good risk-reward ratio
The bigger the possible rewards, the more failed trades your account can withstand at a time. If you have 1:5 risk/reward ratio, one successful trade will sustain you through 5 bad trades with the same ratio.
Diversify your risks
You don’t have too “put your eggs in one basket”, because something may go wrong with this basket. The solution is to spread your risks across different currency pairs.
Be aware of currency correlations. For example, EUR/USD and USD/CHF have a high inverse correlation. If you sell EUR/USD and buy USD/CHF, you are exposed two times to the USD and in the same direction. It equates to being long 2 lots of USD. If the USD declines, both of your positions will be losing.
I hope find these tips helpful.
