When it comes to trading stocks, forex, and any other asset for that matter, it is simply impossible to wholly remove the risk implied in opening a position.
If the coronavirus pandemic has taught us anything, it’s that we can never take anything for granted in life because we simply have no idea of knowing what’s around the corner.
With political and economic uncertainty comes risk. That’s before we even factor in how each individual business that we invest in will react to the changing conditions in its market sector.
Newcomers to trading have to be aware of this. You see it so often – a first-time trader enjoying success with their initial forays into stock trading and thus thinking they have ‘cracked it.’ Then variance and the powers of the market wipe out any green numbers they have generated.
Respecting the game is crucial and knowing how to minimize your risk in your first few days, months, and even years in trading is vital.
Happily, there are some strategies and trading tips that you can deploy that minimize your exposure to potential downturns, and we will outline a number of those in this article.
It is commonly accepted that one of the best ways to minimize risk in investment is to keep the amount of time that a position is open to an absolute minimum.
The longer you have an active position, the more chance you have of the market going against you – that is a sad but true explanation of stocks, forex, or any other commodity you may wish to trade.
The idea behind guerrilla trading, which is one of the most risk-averse trading strategies available, is to get in and out of the market as quickly as possible – within a few minutes or even seconds, to be precise. That minimizes the risks associated with prolonged spells in the market and should allow for very small but very quick profits to be made.
To ultimately be successful in your guerrilla trading, the idea is that you open a high frequency of positions and therefore make multiples of small ‘wins’ – often as little as a couple of ticks at best.
The key is to put strict stop/loss positions in place because clearly, one significant downturn can wipe out a whole session’s worth of guerrilla profits. Taking the small red and moving on to the next trade is a vital mindset for this strategy, as is the contented feeling that even the smallest of profits is essential to long-term success.
The rebound strategy
As we know, the overarching goal of trading anything is to buy low and sell high.
When we consider that principle from a risk management perspective, it doesn’t matter whether we are day trading or holding long term. We must buy-in when we believe an asset has reached its lowest value for a specific timeframe before holding until better times return.
How do we do that? It’s very difficult to be precise, of course, and this is where a basic understanding of charting tools becomes crucial. Support and resistance, and candlestick charts, can offer a keen glimpse at when an asset might be heading for a rebound.
And so, the rebound strategy is as the name suggests – assuming that a price of an asset probably won’t sink any lower for that trading session or a specific timeframe and hoping that a rebound is inevitable. It doesn’t always pan out this way, of course, but if you can accurately identify the bottom, then you should be long-term profitable.
Momentum trading (with caution)
As we know, positive market sentiment for a particular asset will typically lead to more buying activity than selling. While there are those always looking to short it the other way, a stock that is on the move will carry momentum for a period of time.
Understanding trading volumes is key to successful momentum trading because once the volume shifts from buy to sell – and vice versa – we know that a price move is imminent.
Trading volumes also confirm a trend or a red flag as to whether the change in sentiment is only fleeting. Crucially, these will act as indicators of ‘exhaustion’ – knowing when momentum has come to an end.
On Balance Volume (OBV) is a necessary component of the momentum trading strategy. The application of this provides an ongoing look at how an asset is performing now and where it may be heading, with volume changes suggesting shifts are imminent.
Many charting packages have volume indicators on them. They are also an excellent guide to liquidity – remember, if you are planning on guerrilla trading or scalping, etc., then liquidity in the market is essential so that you can lock in those marginal profit gains.
Stop/loss and take profit strategy
One of the great obstacles to trading success for an investor of any experience level is emotion – or, specifically, emotions that betray us and lead to irrational decision making!
Chasing losses or feeling invincible when we have a green position open – which, as we know, can quickly change – are two contrasting emotions with similarly damaging results, and they explain why many traders opt to automate their processes.
You don’t need to be a tech genius to accomplish that – all you need is a piece of software such as MetaTrader and an understanding of what the Stop/Loss and Take Profit tools are.
As the name suggests, the Stop/Loss position automatically closes your trade when a specified loss is made. On the flip side, a Take Profit entry will determine when a trade is closed on your behalf when you reach a specific profit target, be it a numerical figure or a particular percentage.
While not a trading strategy per se, understanding these automated tools and realizing the damaging impact of emotional volatility on your trading is essential for newcomers to investing.