It’s all too easy to get carried away with the idea that trading is an easy way to make money in an industry that is full of the prestige and glamour like it’s shown in the movies, but the truth is trading is hard work, takes time, and not every trader is successful because ultimately, trading is a risky business.
Risk is defined in financial terms as the chance that an outcome or investment's actual gains will differ from an expected outcome or return. As there are no guarantees in trading. Traders make their decisions on when to buy and sell with careful risk versus reward calculations and there are two main risks to consider - Liquidity and Market Risk.
Market risk is the chance of losing money due to changes in prices of stocks, interest rates, commodities and currencies due to external factors that affect the entire market as a whole such as recession, political troubles or natural disasters.
Liquidity is the risk that you may be forced to trade at a lower price than you anticipated. In liquid markets, assets are easily traded but you may struggle to find a buyer for illiquid stock so are forced to sell at a lower price.
How To Minimise the Risks Of Trading
According to Warren Buffett, one of the worlds most successful traders with a fortune into the billions, “Risk comes from not knowing what you are doing.”. So, taking time to educate yourself on all aspects of trading is a great place to start to minimise the risks of trading.
Trade Room Plus is a professional live trade room and trading educator that can show you how to take risks and how to mitigate the effect of risks you do take within your trading strategies for Forex & Index markets on spread bet and CFD broker platforms.
In this article, we outlined some of the most common risks of trading to be aware of, how you can take steps to minimise their impact to your trading and how to recover if your calculated risks don’t pay off.
Know Your Attitude To Risk
As we’ve said, trading is an inherently risky business, so it pays to know your attitude to risk before you dive into buying and selling to ensure you’re trading in markets best suited to you.
If you are someone that is risk averse you would be better suited to trading in long term stocks and shares that give your investment time to recover from any ups and downs in the market.
For those who don’t mind taking risks, day trading could be for you as the shifts in the market fluctuate quickly with day traders often dealing in thousands of shares often with leverage, looking for small-percentage profits on each trade, with no position held overnight - this is an approach most suited to those who know what they’re doing!
What Are The Main Risks Of Trading?
Different markets come with their own set of risks but here we will focus on FOREX and INDEX markets as these are the markets we educate our members to trade in at Trade Room Plus.
Common risk factors within the forex and index markets include:
- Exchange Rate Risk - caused by changes to the value of currency in relation to others
- Interest Rate Risk - the potential that a change in overall interest rates will reduce the value of a bond or other fixed-rate investment
- Country Risk - The uncertainty of investing in different countries which could be down to political, economic, exchange-rate, or technological influences in the area.
- Liquidity Risk - This is the risk that you will not be able to sell your assets within a reasonable amount of time at a decent price.
- Marginal or Leverage Risk - Using small amounts of cash to borrow substantial amounts can leave you at risk of losing more than you had to lose in the first place.
- Risk of Ruin - the possibility of losing so much money that it is no longer possible to recover.
How to minimise the risks of trading?
Knowledge is power
We’ve all heard the phrase knowledge is power, and taking the time to learn about the various industries you trade in, the variables that are likely to impact the trades you take part in such as market fluctuations and business sales, how they generally perform, along with any known cycles, will help your ability to look for key signs and act at the right time to improve your success rate and minimise risks when trading.
Learn from your mistakes
It goes without saying that you will lose money when trading but by keeping a trading diary you can look back at your successes and your mistakes in order to keep honing your strategy. We recommend and use Edgewonk here at Trade Room Plus.
The Risk / Reward Ratio
The risk reward ratio is a measure of how much a trader can expect to earn for every dollar that is invested. The actual ratio used will vary between traders, their strategies and the markets they operate in but generally speaking 1:1.5 is seen as an ideal place to start. It is calculated by dividing the amount they stand to lose if the price of an asset moves in an unexpected direction (the risk) by the amount of profit that is expected when the position is closed (the reward.)
Where Can I Learn More About The Risks Of Trading?
The best way to learn anything is to see it in action then try it yourself under the guidance of an expert before taking the plunge into trading solo. Whether you’re a seasoned pro, brand new to trading or are getting back into it after a break, it’s important to keep learning about the market and the stocks you’re buying in order to minimise the risks of trading - which is exactly the service we offer our customers as Trade Room Plus.
Try Trade Room Plus FREE for 14 days
At Trade Room Plus we trade live in front of our members and thousands of aspiring traders on YouTube every single day. It’s real trading, real money in real-time and is the best way to learn about the risks of trading in a safe environment.
The value of our online trading education hub, free 14-day trial and excellent customer satisfaction scores make Trade Room Plus a brilliant place to start your trading journey.
As we’ve discussed, trading is inherently risky and anyone who tells you otherwise is either uninformed or trying to get you to subscribe to some “get rich quick” service. When trading you have to know that your money can and will go up and down so you should never invest more than you can afford to lose.
This article has highlighted some of the risks of trading and demonstrated ways to reduce that risk with comprehensive trading education. We hope we have given you the confidence to enter the exciting world of trading and enjoy all the benefits trading has to offer even when the markets throw a curveball your way.
Also see:
What Are The Different Types Of Stock?