The very nature of Forex trading carries an element of risk. Being aware of the inherent risks and taking the necessary steps to guard against them is one of the key steps in becoming a successful Forex trader.
Everyone has a slightly different risk profile – however, it’s important for everyone to understand the two types of risk involved with Forex trading - margin and volatility.
When trading Forex on margin, you only need to deposit a fraction of the trade value – meaning gains and losses can be multiplied exponentially. Exchange rates are subject to wide fluctuations as economic and political circumstances impact directly on prices. While this volatility presents opportunities it carries the same amount of risk.
With these risks in mind it’s important to keep the golden rule in mind.
It may seem obvious but many people forget this golden rule of trading. Never trade money you can’t afford to lose. The Forex trader’s graveyard is littered with failed traders who didn’t follow this rule and thought that the worst could not happen to them. Even if you dodge the bullet, your trading performance will be affected by the very thought of losing money you can’t afford to. Mistakes are bound to happen when operating in that sought of pressure cooker environment.
This follows on from the golden rule. While potential profits can be massive by tapping into the leveraging potential offered by trading at rates of 50:1, so too can the losses. Your trades should be reflective of your account size – this means that you should be trading in a range that is safe for you to trade in. Opening sizeable trades with a small account is not advisable. Manage your risk by been prudent with your trade sizes.
Stop losses are your safety net for when things go wrong. They won’t recover money lost but they will stop the bleeding. The trick is to set the stop loss at a point that you believe would confirm that your trade was wrong. It’s important to understand that stop losses are designed to be an emergency parachute for when things go pear shaped. Set them for that point not for when things might look a little shaky.
There is no magic formula that will predict the movement of any market. However, it is possible to use technical analysis to help you to predict likely probabilities of price movements. Part of managing risk is knowing when the right time is to enter the market, based upon as much information as you can get hold of, Technical analysis helps you to make decisions with a greater degree of confidence.
Intelligent trading based upon real data using money that you can afford to lose if things go horribly wrong, trading in sizes commensurate with your account and employing stop losses to control risk will help you to avoid a worst case trading disaster. Being disciplined and using these strategies won’t prevent you from losing money on any given trade, but they will help you to survive the bad days and profit from the good ones.