What is one risk in forex?

The forex market is very liquid but also volatile and there are many risks that a trader must be aware of so they can limit or control them as effectively as possible.

Because forex trading uses high leverage, traders face amplified risks compared to other markets. So, leverage is one of the biggest risks in forex trading. Another risk is volatility. While price swings can be favourable and can help you explore more opportunities, they can also lead to large losses.

Many traders, especially those who start naively trading and are unaware of the risks, tend to be extremely enthusiastic. Very often to the point where they overestimate their abilities and chances. This tends to lead to mistakes, emotional trading and, of course, losses. Eventually, disappointment leads many beginner traders to withdraw from trading and never return to it again.

It is true that trading can have its ups and downs, and many professional traders may experience fluctuating emotions, those who do decide to stay in for the long run are the ones who are the most disciplined and realistic about their expectations.

Forex is speculating or gambling?

With fast transactions, traders can get carried away and approach trading as gambling, meaning to treat it as something purely based on luck. But the correct approach is to treat trading as a business that requires the skill of speculation. Speculating is not gambling, since it involves some control over risk. In other words, the difference between gambling and speculating is risk management.

Pamamahala ng Panganib in forex

A price chart can assist you in determining the likely psychological price trigger points, which you will need to know in addition to understanding the market dynamics in which you are trading.

The next most crucial consideration after deciding to trade is how you will control or manage the risk. Keep in mind that you can manage the risk to a large extent if you can measure it.

Before you even make the trade, you have to psychologically accept this risk. You can keep considering the trade only if you are comfortable with the possibility of losing money.

You must avoid making the trade if the loss is too great for you to handle; otherwise, you will be too stressed to remain objective while your trade is being made.

Risk factor: Liquidity

Liquidity is one of the key risk factors in forex. When there are enough buyers and sellers at the current prices to facilitate your trade with ease and efficiency, it is said to be liquid. Liquidity, at least for the major currencies, is never an issue in the forex markets.

This is referred to as market liquidity, and according to the most recent data from April 2022, it accounts for about $7.5 trillion in daily trading volume in the forex market. Nevertheless, not all brokers may have access to this liquidity, and it varies across currency pairs.

As a trader, you will be impacted by the broker’s liquidity. You will probably need to depend on an online broker to hold your account and carry out your trades unless you deal directly with a major forex dealing bank.

Large, well-known, and well-capitalised brokers should be acceptable for the majority of retail online traders, at least in terms of having enough liquidity to execute your trade efficiently.

Risk per trade in forex

The amount of capital you have on hand also affects risk. A small portion of your total capital should always be at risk per trade. Two percent of your available trading capital might be a good starting percentage.

If you have $8,000 in your account, for example, the maximum loss that can occur should be no more than 2%. Your maximum loss under these conditions would be $160 for the first trade.

If you lose 2% of your remaining balance on each trade, it would take approximately 673 successive losing trades to fully wipe out your account. However, if you have a good system in place and manage your risk, you could avoid this.

Leverage (Leverage)

Leverage is the next major risk multiplier. Using the broker’s funds instead of strictly using your own is known as leverage. Because you can trade $100,000 with just a $1,000 deposit, the spot forex market is extremely leveraged.

This leverage factor is 100:1. In a 100:1 leveraged scenario, a one pip loss is equivalent to $10. Therefore, your loss would be $500 rather than $50 if you had 10 mini lots in the trade and you lost 50 pips.

Nonetheless, the availability of high leverage is one of the main advantages of it the spot forex markets. This high leverage is made possible by the market’s high liquidity, which makes it simple to exit a position quickly. This makes managing leveraged positions easier than in most other markets.

Naturally, leverage has two sides. Profits from leveraged investments are quickly magnified, but losses will also quickly deplete your account.

Traders’ bad choices and psychology

However, of all the risks that come with trading, the most difficult to control and the one that is most frequently held responsible for a trader’s loss are the trader’s own poor habits. Every trader is accountable for their own choices and strategies.

Since losses are common in trading, a trader must learn to accept them as a necessary part of the process. Failures are not losses. But failing to take a loss fast is a sign of poor management.

When enters a losing position, they typically reevaluate their strategy and bide their time until the loss reverses and the position turns a profit. This works well when the market does recover, but when the loss increases, it can backfire.

Working on your own habits and being honest enough to admit when your ego interferes with making the right choices or when you are unable to control the automatic pull of a bad habit are the best ways to reduce trader risk.

Keeping a journal to control impulsive decisions

Keeping a journal of every trade, noting the reasons for entry and exit, and maintaining a score of how successful your system is are the best ways to objectively assess your trading. To put it another way, how certain are you that your system offers a dependable way to tip the odds in your favour and give you more opportunities than possible losses?

Which forex risk management strategy is considered among the best?

Stop-loss orders are a great way to manage risk. By limiting their maximum loss, stop-loss orders assist traders in defining their comfort zone. This eliminates greater losses as well as uncertainty and emotion from trading.

Conclusion

Every trade you make carries some level of risk, but you can manage it as long as you can quantify it. However, keep in mind that excessive leverage relative to your capital and a lack of market liquidity can both increase risk. The only way to produce good returns is to take on some risk if you have a disciplined approach and good habits.

Disclaimer: This information is not considered investment advice or an investment recommendation, but instead a marketing communication. IronFX is not responsible for any data or information provided by third parties referenced, or hyperlinked, in this communication.