Industry experts are highlighting five critical risk management techniques to help traders navigate volatile financial markets.

All types of trading are based on the interplay of risk and reward. Traders risk their money with the hope of achieving a reward. In other words, there’s always a risk whenever you trade.

However, just because you can’t get rid of this risk doesn’t mean you just need to forget about it altogether. This article looks at potential risk management techniques and things you can consider in your own trading strategy.

What Is Risk Management in Trading, and Why Does it Matter?

Risk management simply means trying to keep your trades sustainable. There are many tools, strategies, and features that can help with this. Traders tend to use a combination of different approaches to keep risk low.

Trading expert and Spread-Bet.co.uk co-founder Justin Grossbard explains more:

“Trading is an inherently risky actively, no matter what software you use, or what instruments you trade,” Justin says.

“With a careful and considered approach, however, many traders are able to keep risk low. There are no guarantees, and risk management is never an exact science. But risk is something traders should always keep in mind.”

Risk Management: Things to Consider

Here are a few aspects of risk management to consider as you trade:

Broker Regulation

It is regulators that hold brokers accountable. They ensure that trading companies protect client funds and that their features support sustainable trading.

For example, a regulator may apply a leverage limit, reducing the impact on your account balance if a trade goes wrong. They might also require negative balance protection. This means you can’t end up owing money to the broker.

Many regulators will make sure that brokers keep client funds segregated from their own operational capital. With this protection, you can get your money back if the broker goes out of business.

If there’s no regulator, you don’t have any of this protection. This is why it’s wise only to trade with regulated and licensed brokers.

Risk Management Tools

Brokers will give you tools you can use to manage your risk, and it’s probably a good idea to use these when you can. Stop-loss and take-profit orders are some of the most common. These tools will simply close your trades once predefined levels are hit, so you stay within sustainable parameters.

You might also consider using backtesting tools. If you’re using a new automated strategy, for instance, you want some insight into whether the strategy is going to work or not. Backtesting shows how the automated strategy would have performed against historical data. This is not a guarantee of future performance, but it can still help you spot potential issues.

Leverage Ratios

With some forms of trading, you will be using leverage as a matter of course. This just means you will borrow money from the broker to help you control a larger position than your own capital would otherwise allow. 

You’ll still need to put up some of your own capital. This is your margin. The relationship between margin and leverage is expressed in the form of a ratio. A ratio of 20:1, as an example, would mean you borrow $20 for every $1 contributed from your own account balance. You’re basically getting 20x the market exposure.

However, 20x the market exposure means 20x the risk. Be very careful with leverage, and increase your own ratio slowly and sustainably. This is a big part of risk management, as many traders get overexcited and push their leverage too high, which makes trading unsustainable.

Instrument Types

Trading on all instrument types can be risky. However, some instruments carry more risk than others. A commonly traded major forex pair may have relatively high levels of liquidity and could potentially offer some trading stability. There may also be lots of historical data available on this type of instrument, which can inform your predictions.

A cryptocurrency altcoin, on the other hand, may offer low liquidity and low stability. It may be subject to sudden price crashes, and its past performance data might be limited. This type of trade will often carry a higher risk profile.

These are just a couple of very generalised examples. They are chosen to illustrate how risk can vary across different instrument types. No trading instrument is completely risk-free, and it’s important to do your own research into each instrument before you begin.

Demo Accounts

Many brokers offer demo accounts alongside their live trading accounts. A demo should give you all of the tools and features of the live account, but it will use virtual funds, not real money. In other words, it’s a place to practice your trades.

Beginners will usually use a demo account before graduating to live trading, but experienced traders use demos too. This type of account is useful for testing out new strategies, instruments, and approaches. 

Like with the backtesting tools mentioned above, strong demo account performance doesn’t always translate to the live environment. However, the demo account can still provide you with valuable insight into trading risk.

Risk Management, Not Risk Elimination

Sustainable trading relies on effective risk management. Top traders work hard to mitigate their risk where possible.

However, perhaps the most important thing to keep in mind is that risk can never be zero. Even the best risk management strategy won’t take away risk altogether, and even the most experienced traders sometimes make expensive mistakes. Trade conservatively, develop a sustainable strategy, and try to stick to this strategy.

Disclaimer: This article is designed for informational purposes only, and does not contain any financial or trading advice. Information is subject to change. Trading activities are carried out at your own risk.

This industry announcement article is for informational and educational purposes only and does not constitute financial or investment advice.