The importance of risk management in Forex: A beginner’s guide for South African traders

By: Chime Amara

What is Risk management？

Risk management is the practice of guarding against excessive loss by protecting one's position should the market go contrary to the trader's predictions.

What are the risk management practices？

There are basically four major risk management practices obtainable in forex trading. We have discussed them below.

A. Use of Stop loss: Stop loss is an important risk management practice that involves setting a pending order below or above one's position to close one's open position should the market take the opposite course of the trader's forecast. Often a Stop loss order is set 30 - 50 pips away from one's entry. Some prefer mapping out only 1% of their capital as the stop loss target.

B. Setting take-profit target: The fact that the market often spiked to hit certain levels and then reverse from it, has made it very necessary for traders to set their targets for each position they take in the market today. Setting a take-profit order helps to close one's trades when the market gets to the indicated level.

C. Correct use of Lotsize: Lotsize is the buying power due to each trader based on his capital. One of the greatest means through which traders can manage their risk well is by choosing the correct lotsize due to their capital. Using excessive lotsizes endangers the trader's capital in cases where the market goes against him.

D. Hedging: Hedging involves taking two different positions at the same time in the market as a way of guarding against loss. Here the trader often placed a new trade above or below his stoploss to be triggered in cases when the market reverses and cuts off his stop loss target. Similarly, hedging includes but is not limited to taking two opposite positions at the same time.

Conclusion

The importance of risk management practice in forex trading can never be overemphasized. Thus, without proper risk management practice put in place, the trader is all the more exposed to losing a greater part of his capital due to high market volatility. It is therefore necessary for all forex traders to apply proper risk management practice while taking any positions in the market today.