Risk Management Is Your First Job
Is risk management important in your career?
Focusing on risk management would be a complete game-changer to your portfolio especially when it applies to position sizing.
There are numbers to support that; Fail to respect risk % and position sizing and you will have a short-lived trading career.
For those of you that have been trading for a while, you may already understand the importance of this. For a beginner, this is something you must understand long before you worry about mastering technical analysis, more importantly, placing your very first trade.
You know even experienced traders should constantly refresh the basics.
It is a known fact, the definition of risk is the probability of losing money or trading capital. In the context of a trader’s activities, this refers to the probability of having losing trades and losing money as a result.
Everyone thinks the more risk, the greater the potential reward. This is something that is true in many endeavors.
A basic financial principle is that the more risk taken, the greater the potential for reward. Taking this principle to its extreme, however, has been the downfall of many inexperienced traders.
On the other hand, not taking enough risk will keep you as a trader from trading at a level that will generate significant profit
The main point here is that there needs to be a balance.
One of the primary goals of trading is to protect the capital. While it might seem that the first goal should be to make a profit and that is what our mind naturally moves to, simply focusing on the profits or returns may cause us, traders, to take unnecessary risks.
The common fact is, without enough money or trading capital, a trader is bankrupt, and that’s an ugly word. The point we need to drive home here is that trading capital is the lifeblood of your trading business.
Your trading is all about the probability of survival. You need to implement and use proper risk management if you want to stay in this trading business for the long haul.
How to achieve Effective Risk Management?
By understanding this we will keep ourselves in a position to recover from the losing streaks we all have, we need to factor in three items.
1. Risk Per Trade
You know that the more you risk per trade, the more chances you will have a drawdown that is hard to recover.
2. Daily Or Weekly Circuit Breaker
Traders need to decide how much money they are willing to lose in total to stop trading during a specific time frame such as weekly or daily trading activity.
You will find that there are days and weeks when the market structure is not good. You might be in an environment that is completely news-driven, where no trend can take a hold, where the market chops around erratically. On those days you will possibly get some pretty heavy losses.
You should always have in mind the maximum amount of money that you are willing to lose before stopping trading. You may go back to that probabilities table and decide that 10% of your account is as much as you’re willing to lose in any one day. Or you may be more conservative and only be willing to lose 5% on your account on any one day and that could happen if you get five losing trades in a row.
For example, if you are down 10% of your account in one day, that’s obviously not good but you know that you can recover relatively easily. You need to recover 11% to get back to where you were. So, have in mind the daily and weekly maximum amount of losses.
3. Maximum Draw Down You Are Willing To Take
You might not get large losers every day, but you may find that over a period of weeks, your account is gradually decreasing, slowly but surely decreasing. You need to have in mind a maximum drawdown level for your total account that will alert you to:
- Redo your homework,
- Work on your analysis again,
- Time to refresh your trend analysis,
- Consider changes to the instruments you are trading,
- Doing top-down technical analysis for your trading strategy change.
If your account has drawn down by a third from its peak value, then that is a pretty strong indication that something is not working. It could be something in the environment, something fundamental, maybe a fundamental change in the markets that you are trading, or it could simply be that your trading system is not very adaptable and needs to adjust to the market.
If that happens, reassess your trading plan and your system.
For proper risk management ask yourself, how much are you willing to risk on each and every trade, how large of a loss you are willing to take on any single day or week, and how much of a loss will you accept before reassessing my trading system and plan.
For striking a point, to master effectively the so important money management (some call it risk management) we have developed a Funded trader program which will give you an intensive two weeks training before you receive 10k in funds for your Live trading account. We will prepare you to and constantly overview how to do you:
- Apply proper Methods and Strategies (using Technical Analysis of course)
- Good Money Management
- Discipline to manage your emotions and working on your trader mindset (easy to say, but far away from easy to apply even for experienced traders)
Top-down trading technical analysis, we developed over time, have all three basic principles compiled. Analysis starting from the higher time-frames will lead you to reveal the key breakout, support, and resistance level which will give you high probability entries with the low risk (proper money management), but this approach also requires discipline. These three basic principles compiled, should lead to long-term profitability and it should change your mindset in trading, meaning not to give up after a period of drawdown, and managing your emotions in difficult trading periods and difficult market conditions.
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