Traders must prioritize effective risk management techniques in online trading to reduce loss and achieve long-term success. This is where advanced techniques for risk management come into action, helping you mitigate the risks and protect your capital.

This article will explore the advanced risk management techniques for online trading. So, let’s get right into it. But before that, let’s understand how risk management techniques work.

All About Risk Management in Online Trading

Loss may occur when the market does not move in the right direction of your expectations.

Risk management helps you reduce the heavy loss to something reasonably affordable.

Risk management consists of strategies and tools that help mitigate risks associated with online trading. Elections, interest rate decisions, and new technologies influence investors’ risk sentiment and shape market trends.

To become a successful trader, you should measure the loss incurred against the profit potential on a new position. Risk management helps you reduce your short-term risks and enhance your long-term opportunities.  

How does Risk Management Work?

Risk in online trading is the uncertainty of investment returns. Events during trade and changes in market direction and magnitude can cause deviations. You can make more profits when the events are favorable. Unfavorable events can lead to minimum earnings or even incurring a loss.

Volatility is the rate at which asset prices swing, both up and down, based on historical returns. Your risk tolerance depends on your financial resources and volatility tolerance. Based on your risk tolerance, a risk management plan can be created.

The three essential steps to manage risks are as follows:

• Identification
• Evaluation
• Mitigation

Identification of Risks

Gathering insights about the existing variables can help you identify the financial risks. The two types of risks in finance are as follows:

• Systematic risks affect the entire market or industry rather than being specific to a particular asset. Inflation risk, Exchange rate risk, Market risk, and Interest rate risk are the systematic risks.

• Systemic risks, including financial crises and bank runs, are notoriously difficult to quantify in terms of probability or potential consequences.

Evaluation of Risks

You can evaluate risks using several methods. The most common evaluation methods are active and passive risk management.

• Active risks result from trading strategy. The active risk ratio (alpha) measures the asset’s performance against a benchmark over a specific period.
• Passive risks result from uncontrollable market events. The passive risk ratio measures asset volatility against a benchmark over a specific period.

Mitigation of Risks

After identifying and evaluating the active and passive risks, you can use the mitigation techniques to reduce the impact of risks.

Advanced Risk Management Techniques for Online Trading

Risk management is the solid foundation for successful trading. The Risk Management techniques for Online Trading are as follows:

Diversification

Investors use diversification techniques to reduce the impact of unfavorable events on a particular sector. This can reduce risk and increase the chance of steady returns.

The automobile industry faced a crisis in 2019, and the IT industry flourished.

A diversified investment portfolio would have helped the traders mitigate the risk associated with the automobile industry crisis. Diversification can help traders reduce the risks related to a specific industry or market fluctuations.

Portfolio Optimisation

In this process, the traders create a portfolio to reduce risk and maximize return. You should analyze each portfolio to calculate its return and risk. Then, you can choose a combination that has an optimal risk-return trade-off.

Position Sizing

Position sizing is the process of not investing entirely in a particular asset. It helps traders reduce the risk of losing the entire investment in a single trade.

 For example, If you have 50 USD, you should not invest it in a single portfolio because you might lose everything. Instead, you can invest 2% in this trade to reduce your loss if something goes wrong.

Hedging

You can use hedging techniques to mitigate risk and reduce loss. Hedging against market price risk involves using financial instruments to protect yourself from loss due to price fluctuations.

To hedge against credit risk, you should offset the contract to counteract the natural position. Derivatives can be used to hedge the underlying assets due to well-defined relationships. Financial instruments that can be used for hedging are the future, options, and insurance.

Stop-Loss (Exit Trades)

Traders can set predetermined exit points to safeguard their investment using stop-loss orders. It is an automated order for selling assets before the price set drops. Setting a stop loss at 1% can prevent you from profiting from the rising price due to normal fluctuations.

To make decisions on setting stop-loss orders, here are the following rules:

• Use your risk tolerance as a base to determine the percentage.
• To manage the risks, you can use a volatility-based stop-loss.
• Try using position sizing, diversification, and other methods along with stop-loss.

If you are interested in online trading, you can start using Fxcess. If you have any questions, you can visit our website.

FAQs

How to avoid a risk?

The steps you can follow to avoid the risks are as follows:

• Identify the risks.
• Analyze the possibility and effect of the risk.
• Calculating the risk exposure.
• Take further action

What is trading risk?

Risk is the potential pitfalls that can lead to financial loss in your capital. It may arise due to swinging prices of the goods and services.

How to control risk?

To control risks, you can use portfolio optimization, diversification, hedging, position sizing, and stop-loss orders.

How do we reduce loss in intraday?

Setting a stop-loss can reduce your intraday loss. Set the level between 1% and 3% below the purchase price.

What are the 4 T’s of risk management?

The 4T’s of risk management are Tolerate, Terminate, Treat, and Transfer.

สรุป

By understanding and applying risk management techniques, online traders can reduce the risk and achieve long-term success. To manage risks effectively, traders can combine the strategies and tools to make trading decisions and protect their investments.

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