CFDs for beginners. Risk Management

Risk management will play a major role in any successful trading plan. If you use a trading method that allowed you to be successful the majority of the time you would assume that you would be profitable right? What would happen if your average losses were 60% bigger than your average wins?

Despite the fact that more of your trades are profitable, the fact that your losses are larger would result in your account going backwards especially when you factor in transaction costs. This illustrates that the key to trading success lies not in achieving a greater number of profitable trades but in intelligent position sizing, management of your trading capital and risk management. Careful consideration given to these factors can ensure you are not over exposed to the market and that any losses incurred are kept relatively small.

As a side note, you should recognise as early as possible that losing trades are an inevitable part of trading. As a trader we always aspire to increase the number of profitable trades and minimise the number of losing trades but the truth unfortunately is that there are too many factors influencing share prices at any given point to predict the outcome of a trade with any real certainty. Rather than focusing on a futile aspiration of trying to maximise profitable trades it is advisable to instead focus on perfecting the things that you have a very high degree of control over. This, in simple terms, means controlling your risk.

Risk management plays such a crucial role in trading success because it allows you to protect your capital. It is essential that you know your stop-loss levels prior to entering a trade. It is best to know your exit price in advance for a number of reasons. Firstly, it is a critical element in the position sizing methodology discussed previously. Secondly predetermining your exit level allows you to make a decision when you have no capital at risk. You may have found in the past that it can be very difficult to make a trading decision whilst you have a position open. This is because decisions can be influenced by your emotions. Instead of this, if you predetermine your exit level and ensure you exit at your predetermined price you should find the whole trading experience much less stressful.

In order for this model to work we need to know three things; our entry price, our exit price and our available capital.


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