is an essential but often overlooked prerequisite to successful active trading
,” explains an article on Investopedia
“After all, a trader
that has generated substantial profits over his or her lifetime can lose it all in just one or two bad trades
if proper risk management
isn’t employed,” the article continues.
But if you apply risk management
correctly, you’ll be able to limit losses and keep trading for longer.
Revealed: The professional risk management secret you should be using in your trading strategy
use a method of risk management
called the percentage risk method
, and you should follow suit.
“The percentage risk method
aims to ‘risk’ the same percentage of your trading account
(not the same trade size) per trade,” explains Fourie.
To use this method, all you need to know is the percentage risk
(of your unleveraged trading account) you’re prepared to risk per trade
How does the percentage risk method work?
“Let’s say, you’ve chosen a percentage risk
of 2% of your trading account
,” says Fourie.
“If you start with R20,000 you’d only want to risk 2% of R20,000 per trade
, which is R400. So with every trade, the maximum you’d lose (assuming no gapping or slippage) would be R400.” Once you set up your trade,
you’ll then set your stop loss at the level that ensures your trading loss is no more than R400 (2% of your trading account
) if the trade goes against you.
“If your very first trade
is a loser, your account would now be R19,600. So now you’d only risk 2% of R19,600 (R392),” continues Fourie.
The same applies if your trading accoun
t increases. You’ll up your trade sizes
(still working with 2% of your trading account) so you can risk more money and make potentially larger gains profit.
Bottom line: Trading
on the stock marke
t can be a risky venture – but that doesn’t mean it can’t be profitable. By using a risk management
model such as the percentage risk method
, you can control the down side risk of trading
and give yourself a chance to trade
again if a trade
goes against you.