Trading is the process of initiating risk and using a strategy where you can consistently generate a strong performance. Before you place your first trade, you should have a clear idea of where you will exit with a profit or execute a stop loss. Integrating you risk management into your trading strategy is the key to long term success and developing a risk versus reward profile that is in line with your investment goals. This will allow you to attain a robust long-term trading performance strategy.
Risk Versus Reward
Before you begin to trade, you should understand that you are taking a risk. The greater the risk, the higher the reward (or loss). If you don’t want to take a risk, you could be best served purchasing a US treasury bill which has a risk-free rate of less than 1%. Prior to entering each trade, you should determine the risk you are willing to take and the projected reward you would like to receive. It’s imperative that you go through this process each time you place a trade and you should avoid deviating from this plan. Granted, the markets are constantly changing, and if you are trading a discretionary strategy, you might need to change your plan.
There are a few calculations you should understand before you risk your money. One could be risking $1 for every $2 you make. Then you can afford to lose 66% of the time and still break even. Alternatively, if you plan on risking $1 and will only generate $0.5 in profits, you will need to win 66% of the time to break even. For example, if you plan on placing 9-trades and each trade you make $2 and lose $1, then you only need to win 3-times (3*$2 = $6) to offset the 6-loss ($6*1). Alternatively, if you plan on only making $0.5 for every $1 you risk, you would need to win 6-times (6 * $0.5 = $3) to offset $3 in loss ($1 * 3 = $3).
Trading Strategies and Risk Management
Determining the appropriate trading strategy is the key to your success. You want to find a strategy that is in line with your financial goals. You should risk discretionary capital. It’s better not to risk money that you need to live on. Focus on your online trading education. Your strategy should incorporate an entry level, a take profit level and a stop loss level. You can either determine your stop loss level first and then create a target take profit level or vis versa.
You can use support and resistance levels to help you enter the market and you can use several techniques to determine your take profit and stop loss level. You can use a percent increase or decrease to find the correct level to take profit or stop loss. You can use support and resistance levels to create your stop loss and take profit levels.
Your trading strategy and your risk management should work hand in hand. Prior to risking capital, you need to determine your risk management strategy which tells you how much you plan to gain relative to your expected loss. You also need to be aware that you are taking a risk. The greater the risk, the larger the potential reward (or potential loss).