The Forex markets are continually moving. This provides great opportunities to make money but also opportunities to lose money. With leverage, low margin requirements and a lack of risk and money management, a trader can potentially lose a lot of money when trading Forex.
I have received countless emails from people who have blown accounts and have lost savings trying to trade Forex. Trading is a game, a risky game. This does not mean that trading cannot be consistent and worthwhile - take a look at my Forex trading results, I make money pretty much every month of the year - it just means that you need to be well-versed in risk and money management to ensure success. This quick guide to risk management when trading will ensure that you are not taking any unnecessary risk.
How to be successful in Forex
To win the game of trading, you need to focus on the following areas...
1. Have a profitable trading strategy, plan or system
2. Minimise trading emotion and trading psychology
3. Reduce and manage risk
In this post, I will be focusing on point 3 - reducing and managing risk - but to be honest, all 3 areas of focus are so intertwined that it is hard to talk about 1 of the above points without mentioning the others.
Your Guide to Reducing Trading Risk
Tip #1 - Have a trading strategy
Believe or not, one of the best ways to reduce risk when trading Forex is to have a trading strategy... Why? Without a trading strategy you have no trading edge and are simply gambling. A strong Forex trading strategy includes detailed entry and exit points, why and when to open and close trades and details of past performance. Past performance, what an essential thing this is! Historical results will show the win rate and past draw-downs of the strategy. If you don't know these things, you have no tangible evidence of how much you expect to lose and how often you should expect trades to provide a profit. You are simply trading blind.
On another note, a well-planned trading strategy helps to reduce trading emotion. No longer will you be relying on discretion (i.e emotion) to trade but you will be more "mechanical", systematic and following a well-thought-out plan. Relying on discretion or emotion will lead to unsuccessful trading.
I did tell you that all 3 of my areas are focus are intertwined, improving 1 area actually improves all 3.
Tip #2 - Position sizing
Even with a holy grail trading strategy, you can still lose money if you are risking too much. Do you know how many traders have blown at least 1 trading account?! I would estimate at least 70% of retail traders have done this. Most of the time this is due to traders risking far too much per trade.
Sensible position sizing allows a trader to take a series of losing trades but still have sufficient capital to continue to trade. Sensible position sizing also reduces trading emotion and psychology. The more you are risking per trade, the more emotionally attached you will become to that trade. Successful traders risk little when it comes to position sizing. I suggest the following...
Position trading - 2-3% per trade
Swing trading - 1-2% per trade
Day trading - 0.25-1% per trade
If you disagree and feel that you should be risking more, ask yourself 'why am I risking so much per trade?'. The answer is usually desperation or impatience. Both emotions are not healthy and will not make you successful. Profitable trading is about consistency and discipline, not about desperate trades and taking unnecessary risk.
Tip #3 - Leverage
Leverage is great! I love trading with leverage. Some people warn against leverage though, they are right to do so. Leverage enables a trader to open large positions with a small amount of capital, making it possible to have big returns but also big losses. When trading with leverage the key is sensible position sizing and holding a minimal amount of positions. A trader using high leverage has the ability to potentially blow 90% of his or her account in a single trade or hold 20-30 positions and get a margin call.
The key to reducing risk with leverage is to ensure that your position sizing remains small and consistent and that you don't over-trade.
Tip #4 - News Events
Nothing moves the markets more than news events. I have seen 100 pip+ moves in less than a second when unexpected news is released. Being on the right side of these moves is euphoric, being on the wrong side and receiving slippage on your stop-loss is devastating.
The news events that usually cause the most movement in the Forex markets are...
Political events - such as trade, elections, and referendums
Central bank announcements - such as rate announcements and statements
Economic figures - such as employment change, unemployment rate, CPI, GDP, NFP and trade balance
To help you trade around scheduled economic figures and rate announcements, I suggest using an economic calendar.
Tip #5 - Emotions
Allowing yourself to become emotional in your trading is a great way to increase trading risk. Revenge trading, doubling-up and letting losing trades run have to be a no-no.
To reduce trading emotion and in turn reduce trading risk, I strongly suggest the following...
1. Have a profitable trading strategy with clear entry and exit rules.
2. Ensure that strict position sizing is adhered to.
3. Only fund a trading account with what you are willing to lose. Life-savings and debt are not options when it comes to funding an account.
4. Change your trading expectations. Focus on making a profit this year, rather than today or this week. Don't expect every trade to be a winner. Accept the lose before it has already happened..
If you want to learn more about minimising trading emotions, I suggest you watch this video.
Tip #6 - Brokers
Having a bad broker is another way that trading can become more risky. Some "brokers" are fake and are after your hard earned cash. Depositing with these brokers will result in you never seen your money again. Brokers offering a poor service will frustrate you (making trading more emotional), they are renowned for closing positions without a stop being triggered and having platform connection issues. If you cannot access your trading account and big news is approaching, what can you do?! I had a friend that opened a large position without a stop-loss. The brokers server then went down and he could not access the trading platform to place a stop or close the position down. The result, a huge loss of £10,000. It was his own fault for risking too much but this loss could have been prevented if the broker was more reliable.
It is also advisable that you spread your trading capital across a number of different Forex brokers or at least deposit a minimum with the broker of your choice. If your broker goes bust, your funds will likely be gone or frozen until the administrators have done their job.
I highly suggest you only open trading accounts with Forex brokers that are well-regulated (FCA, ASIC or NFA) and have a strong global presence. I personally suggest you trade with Darwinex and IC Markets. Both are well-regulated brokers that I personally use and trust.
In summary, use your common sense, don't be emotional and treat your capital like a good friend.
I wish you all the best in your trading