Do you know what the problem with most retail traders is? Do your maths – is it because they don’t know enough indicators? Well, they are the people who know most of the indicators, in some cases, even more than the pro traders. What could be another reason? They don’t know the insider news? Well, most of us don’t know that until it goes official.
The actual reason why retail traders don’t come out profitable in trading is their lackadaisical attitude towards risk management. This blog tries to illuminate this deep-stacked fact in the world of trading. Let’s understand how to do proper risk management?
But before we start with how and why, do you know what Risk Management is?
What Is Risk Management?
Simply put, risk management is the holy grail of making money in the markets. So much, risk management is even more important than profits to make money while surviving in the market. Why? Because even if you have loads of capital made of actual profit, it can all go away in a matter of trades if the risk isn’t managed well.
Why Is Risk Management Important?
“Give me four hours to chop down a tree; I will use three to sharpen my axe,’ Mr. Lincoln once said this. And no doubt it’s very accurate.
Here’s why Risk Management is essential:
—- Fyers CEO once said that 90% of traders lose 90% of their trading capital within the initial 90 days. If you have a sound risk management system in your trading, you won’t be a part of that 90% of traders.
—- Capital protection is more important than capital appreciation, and that’s where Risk Management can come in handy.
—- It’s the risk management in which new traders lack and go all-in with their capital in one single trade with a profound, deep stop loss.
Now that you know what Risk Management means and why it is essential let’s take our next step towards executing it.
How To Manage Your Risk Effectively?
Most beginners always blow off their account due to their lackadaisical attitude, and they then blame the market. Well, if you are a beginner, or even know a beginner, here’s how to manage your risk efficiently:
Place A Sensible Stop-loss
Suppose you entered a shorting position. You thought of your stop loss as the Resistance level of the underlying security. Here, let’s take an example that you place the stop loss at the previous swing high/low. While it might be a correct move to think of the level as resistance, and chances are low, the price will go over that level. But you need not place the stop loss in your system at those same levels. Why is that so? Because all the giant whales in the market know that the exact level will have plenty of stop losses. And you know that operators love to eat the stop losses. So always place the stop loss a few points above or below the point where everyone generally would.
Overtrading To Recover Losses Should Be Avoided
Many times, beginners hit their stop loss, and instead of staying away from the markets, they try their hand at revenge trading. Why do they do this? They think that they will just end the day with breakeven or a stop loss and come out of the market on a no profit-no loss basis. But many times, they are wrong. How so? They end up including the emotions in their trading, which incurs them losses.
If you know someone who’d do this, or you try to do this, then you need to put a brake on the thing.
Remember The 1% in 2% Rule…!!
While trading, you should always follow the 1% in 2% rule. Now, what does this rule mean? It’s simple, the rule is made up of two simple, yet tough to follow steps:
- 1% Risk Per Trade
When you are about to enter a trade as a beginner, just make up your mind that you won’t risk more than 1% of your total capital in a single trade.
- 2% Total Risk Daily
When traders go into the markets, they should have a fixed percentage of their capital to be willing to risk if their day goes south. In a day, a trader should only risk their 2% of capital, this way the capital will last more than a hundred days, making them better than the 90% of the traders…!! Cheers to them…!!
Just Like Stop Loss, Take Profit Points Should Also Be In System
Greed gets in the way of managing risk efficiently.
People often think that they might sell even higher or buy lower and lower. Within minutes, the price has gone from the range, hurting their unrealized profits. This behavior is nothing new but straightforward human psychology. The human mind thinks that whatever it has gotten is less and can get more and more. To get more, it loses what it actually had.
So while trading in the live market, just like stop-loss orders, the take profit orders should also be in your trading system. Just like you set your stop loss with Stop Loss Market orders, set your take profit orders at the price you want. This way, the greed, and emotional factor get out of the trading, and traders can focus more upon systematic and level-based trading.
Learn To Hedge Positions
Another aspect of risk management is hedging. Also, the word hedge means to protect. So if someone knows how to hedge their trades, they automatically minimize the risk involved in trading.
What exactly is hedging?
Let’s say that someone is long on Bajaj Finance in cash, and they are trading positionally. In case there’s a dip before their target is achieved, in that case, they’d lose their capital. Instead of taking the loss, they either tend to buy the Put Option of BAJFIN or short sell the call option of BAJFIN. This will keep them safe even if there’s a slight correction in the market. Similarly, suppose someone’s buying a Put Option of our indices, and they even have the slightest amount of price reversal. In that case, they should hedge with different options strategies to minimize the loss and maximize the profits.
So the above article briefed you on what Risk Management actually is and how can traders manage their risk safely.
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