DEFINITION of Risk management
Risk management is the process of identifying potential risks in the trader’s investment portfolio and taking steps to mitigate accordingly.
WHAT IT IS IN ESSENCE
It is essential but often missed as the precondition to successful active trading.
Just what is risk management?
The risk in investment is the possibility that an open position will fail to deliver the outcome: this can result in limited returns, or losses larger than the initial outlay.
Say, it’s a collection of ideas offering downside protection to investors. This can include limiting your trade lot size, hedging, trading only during certain hours or days. And recognizing when to take losses.
Unfortunately, many traders fail to implement these measures. Why? Mainly because they enjoy pursuing big bucks by making risky investments using leverage, despite the high chance of suddenly losing everything. And while many traders have had success practicing these trades with demo accounts, they’re overconfident and unable to succeed when it comes to executing such moves for real. But responsible traders take precautions.
HOW TO USE
For this reason, traders often take steps to analyze the substantial risks in their trades and find ways of reducing their risk.
Risk management plays an important role in every active trader. Besides, a trader can make 90% winning trades, but if 10% of losing trades are mishandled, they can lose money on a net basis.
You can have the best forex trading system in the world. But without a solid forex risk management plan in place, you could lose everything.
A trading system with an edge: the consistent application of the rules which govern a particular strategy. Such as specific entry and exit points or always trading in the direction of the prevailing trend.
Maybe you use simple moving averages to help identify a new trend as early as possible, and a stochastic indicator to help determine if it’s safe to enter a trade after a moving crossover.
You could also use the RSI as an extra confirmation that helps determine the strength of a trend. Whatever it is, your trading strategy needs to be unique to you.
After all, you’re the one using it.