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How to Minimize Risk in Forex Trading

Forex Trading | by ForexCycle.com | Sunday, 01 August 2010 05:15 UTC
Although often overlooked by some traders, forex trading risk management is extremely important if you want to be a successful trader.  Why?  Well, as you may know, as the forex market is quite volatile - and there is a substantial amount of leverage available, there is a chance that you can lose all - and more - of your invested money if you do not properly employ risk management.

One of the best ways to combat the problem is to plan for each trade in the proper manner. One way to properly plan your trades is to minimize your trade losses.  In other words then, you should know when to control your losses before you engage in a specific trade or trades.  For instance, you can set a hard stop - or set your loss stop at a specific point before engaging in a trade.  Conversely, you can also set up a mental stop - which is less concrete than a hard stop, but it nonetheless is another way to minimise forex trading losses.  The most important aspect of implementing a stop loss though is to stick with this stop loss.  Emotions will often come into play when the actual trades are in progress and there is a chance that you may let the stop loss move further in the hopes of seeing a currency recovery.  However, this practice will most likely result in you losing more money.

You should also ensure that your lot sizes are a reasonable size. Lot sizes refer to the forex transaction sizes; a standard forex transaction size is 10 000 units, but mini-lots may be 1000 currency units.  While some forex brokers may encourage you to get larger lots, in order to minimize risk, it is a good idea to keep your lot size on the smaller side.  If you keep your lot sizes smaller initially, you will more likely use less emotion when you make trades - and thus, you will learn to depend on sensible logic and decision making.

Along similar lines, while you should keep your lots sizes small, you should also not open too many of these lots.  Additionally, it is vital to understand currency pair correlations.  As an example, if you were to go long on EUR/CHF and short on USD/EUR, these pairings equal to two long lots of EUR.  This situation is not an ideal one because if the EUR decreases in value, you will feel this effect twice as bad.  Thus, it is important that you are both knowledgeable and keep track of your exposure.

Overall then, due to the higher risks involved with forex trading, risk management is more important when it comes to trading currencies.  As you may realize, traders need to act - and quickly - when there is an opportunity in the forex trading marketplace.  If you have proper risk management strategies already in place, you will be in a better position to act upon these opportunities.  After all, if you want to be a successful forex trader that is involved in currency trading for the long haul, you must be disciplined and adhere to certain risk management procedures.  If not, you do stand a chance of losing everything within an extremely short period of time - even minutes.

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