3 Strategies to Master Forex Risk Management

by ETF Base on February 9, 2018

Image Source: Unsplash.com

Although many people don’t realize it, the foreign exchange market is one ripe with uncertainty. There are many external factors that directly influence the value of stocks, and they can be political and social, not only financial. Even if a trend is looking up, governmental interference can make its values plunge in no time, as it happened recently with Bitcoin.

One famous example of the importance of risk management in forex is the case of Bill Lipschutz, one of the most relevant high-profile traders today. When he was still in college, he managed to turn a 12,000-dollar inheritance into 250,000 dollars just like that. But then he lost it all, and so he learned how important dealing with uncertainty in a calculated way actually is.

Risk Management Strategies

Simply put, there are plenty of hazards involved in forex. You can be the best trader out there and always think things through, and you can still lose it all in the blink of an eye. However, there are some ways to minimize these dangers. Here are three simple strategies to help you master forex risk management.

1.    Knowing the Odds

To manage hazards like a pro on the foreign exchange market, you need to adequately calculate the odds of your trade being successful. The way to do that is by performing adequate technical and fundamental analysis of market data.

On the one hand, technical analysis evaluates a company based on historical data, trading volumes over time and trends in the industry. Thus, it has more to do with the context surrounding it than its actual operations or overall value. It is typically a backward-looking methodology which aims to capitalize on identifiable pricing opportunities and trends.

On the other hand, fundamental analysis calculates the value of a stock by considering all the core factors that influence it, such as gross domestic product, interest rates, revenues, expenses, equities and so on. It is a long-term investment approach, which paints a detailed picture of intrinsic value.

2.    Having Sufficient Liquidity

Liquidity involves the existence of just enough sellers and buyers at current prices so that your trade is taken quickly and at the best possible moment. In the case of major currencies on the foreign exchange market, this is usually not a problem, but this is always susceptible to change. And if you’re an unusual pair trader, then this is a true risk you need to manage.

This is achieved by choosing the right trade method. One market strategy that offers excellent liquidity is swing trade forex. Due to its short to medium-term nature, enough volatility is created so that prices move at interesting rates, but not in a way that affects your gains.

3.    Acting on High Leverage

By far the most dangerous trade situation is one that involves high leverage because it also has the potential to be insanely profitable if everything turns out in your favor. Due to the liquid nature of forex, it’s easy to go in and out of a trade at any moment, which creates the optimum circumstances for this.

But the whole thing is a double-edged sword. When you are leveraged and you make a profit, your gains will naturally be higher. But if you lose, it will cut a deeper hole in your budget. This happens due to the way in which your broker’s money is used. Depending on the created leverage factor, the amount of money you win or lose will be calculated accordingly.

What you need to directly control in these situations are your bad trading patterns. At the end of the day, forex is a large-scale gamble, which means it comes with inherent uncertainties. The only way to lower them is by pacing yourself and taking cold-cut, calculated decisions.

Final Thoughts

The best way to maximize your gains and contain any potential losses in forex is by knowing the market like the back of your hand. Calculating your odds while factoring in liquidity and leverage is a sure mix that will minimize some of the risks you will encounter. Just remember, even the best traders lose sometimes.

 

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