Although the question of money management is seemingly straightforward, it has always been the most critical part of a trading plan. Before placing a trade, it’s important that traders consider exactly which risks are associated with that trade. In order to do this, some tough questions should be asked about risk totals, stop placements, and risk reward levels. In order to better tackle some of these common concerns, we have put together some tips for better, more successful risk management.
Plan Your Exit
More often than not, a good trader will have a clear idea of where, when and how to exit the market if a trade is moving in their favor. However, although it is always good to have a profit target in mind, it’s also crucial that traders prepare for leaving the market should a trade be moving against them. There are a variety of manners in which stop losses can be set, however they are more often than not coupled with an existing level of resistance and support.
Remember that a stop order is a point on the graph where your idea for trade is no longer considered valid. It may be time to consider exiting the trade if you currently have buy orders in place and price is making a lower low meaning that a key level of support is broken. In a downtrend, the opposite is true – a trader selling whilst prices are making a higher high may wish to look for another trading idea.
The 1% Rule
Once an exit strategy has been planned, traders must determine how much exactly they are prepared to risk per trade. It’s inevitable that a trade will close at a loss at one point, therefore it’s important to be sure on how much you are prepared to lose before this occurs. A great way of determining this is the 1% rule. Simply put, it means that traders should risk no more than 1% of their total balance on a trade idea.
The 1% rule is also able to be paired with a favorable risk reward ratio. For example in a 1:2 setting, risking 1% in the amount of a loss means that trades should be closed at a 2% profit at minimum.
Professional Risk Master Tools
A highly effective and recommended way to manage your trading risk is to use a professional risk master tool such as that provided by Broadridge IMS. Risk Master is a fully featured and flexible solution for risk management, which allows firms to mitigate risk intelligently across a portfolio or at the level of trade. It allows its clients to take control of their risk exposure to both counterparty and market risk, and facilitates better enterprise-wide decision making by allowing for quick action in response to any identified breaches of risk tolerance.
Do you have any tips for better risk management that you’d like to add to this list? Are you a successful trader who’d like to share your story? We’d love to hear from you in the comments.