ETF Trading is a risky activity, and the trader’s goal is to make the risk as small as possible. Traders can manage their risks by making themselves aware of how much they could lose, known as their stop loss point, and only ever risk a set percentage of their bankroll (25 %) per trade.
This means that if traders stick to this rule and do not allow greed to take over, it will help them minimise potential losses that they may otherwise incur. It also allows them to accumulate larger profits when they win trades because the money that has been risked is what was won during trading. They can then put it towards further profitable trading.
Methods to manage risks
There are three ways that a trader can manage the risk at trading: using stop-loss orders, hedging, and diversifying trades across asset classes.
Every trader should use stop-loss orders as part of their trading plan because it’s one of the simplest ways to manage the risk at trading. The stop-loss order will activate after a predetermined threshold has been met (i.e., price target), allowing you to limit your losses if your trade moves against you before you intended.
Stops should always be placed outside any price action, such as technical patterns or support and resistance levels. Traders also need to be aware of their potential returns. If they set their stop too close, they will lose more trades than necessary due to more significant risks of getting stopped out by random market noise. If the stop is too far away, the trader may miss an excellent opportunity to profit from a well-timed entry. Traders need to identify an optimum level for stops based on pre-trade analysis without being biased by previous results.
Research suggests that it is essential to consider both entry and exit strategies. One method is placing protective stops on winning positions depending on your profit target or using an optimal stop loss. For example, if the risk per trade is 1% of trading capital (capital set aside for trading), one could use a 5-10 pip stop loss. Suppose you have a long term position that has been going in your favour. In that case, it might be appropriate to raise this as your profits increase because now the value of your position needs to be protected from significant unexpected moves against you.
Secondly, using hedging is another way to manage the risk at trading. Hedging involves placing trades in different instruments or asset classes to counterbalance some of your potential losses through a decrease in risk elsewhere. It is impossible to predict precisely how much money you will lose when you trade because of the fluctuation of prices and volatility of markets.
However, if one position starts going against you, having a hedge can prevent that loss from becoming even more significant than it needs to be and protect your remaining capital. However, one must understand that hedging with another trade does not reduce the overall risk factor but merely decreases the impact of an individual position on their overall portfolio.
Lastly, diversifying with several different trades spreads the risk across multiple positions. Long-term diversification diminishes your overall risk by mitigating exposure to trading on just one instrument or asset class while also allowing you to capture profits during positive runs in some. However, diversity does not equal less risk at trading; it merely spreads out the potential loss.
Indeed – profitable ETF traders are not concerned about the risk they take to make an intended gain. It can be considered foolish by most people who have little knowledge of trading. However, every trader needs to understand that risk is inherent in all trading activities. For the best advice on risk management in trading, contact a reputable online broker from Saxo Bank, view website here. Try out a demo account and start trading without the risk.