Risk assessment describes how hazards are identified and analyzed that may cause a negative outturn in the planned process. Potential negative impacts on individuals, assets, or a company are assessed and eliminated or avoided. Risk assessment while trading is looking for factors that keep you out of a trade. Hazards or unusual movements are quickly identified, and if appropriately assessed, they may even keep you out of a trade.
Three steps to assess risk:
- Identify the hazards – Write them down, save them. Learning while trading is the only key to success. Learn what works and what does not. Strategies are a great way to avoid risk and trades that should not be taken. For example, if there is a general uptrend, but there is a significant negative sell-off on the way. This usually keeps me out of a trade because it does not fit my rules and messes up the chart.
- Assess the possible outcome – Be sure to understand what it means if you decide to ignore a risk factor while trading. Sure, it is a game of probabilities; however, the chance of finding another chart with a better build-up is very likely.
- Take the necessary steps to reduce a negative outcome – Reduce your order size if you feel like it is not the best build-up. Take your stop-loss close to your entry to minimize losses. Average your entry out, if possible, by opening 2-4 positions.
- Record every detail – I repeat it often, but I can not stress this enough. Record your trades, learn from your past mistakes and misjudgments. Making a mistake once is fine, but you wasted the experience if you are not learning your lesson from it. Review your recordings after a fixed amount of time, judge yourself for taking dumb trades, cherish the good ones.
Why is risk assessment important while trading?
The proper risk assessment will kick-off your trading career. Focus on what you see, match it with your rules, execute consistently. Trading is grinding, reduce the probabilities of having a negative outcome; if your focus is on that, you increase the likelihood of having a positive outcome. Moreover, assessing risk also helps you to identify your costs. Many beginners forget about taxes, maker or taker fees, and transaction fees to be considered in their risk assessment. Identifying every detail is not easy and involves a lot of reading and thinking, but it is well worth it. As soon as you experienced every risk situation, your trading will surely improve.
My own experience with risk assessment
Risk assessment is something every trader or even an investor needs to know. Risk assessment helps me to stay out of a trade. While I am looking at every timeframe, identifying hazards, and scanning with my strategy, I am not looking for trades to take, and I am looking for trades not to take. Risk assessment taught me to think differently. My trade assessment changed from FOMO driven trading to a calm and objective scanning. When I find my trade to take, I get excited for sure. The ability to anticipate future events and create processes or methods to alleviate the possible outcome is vital for every trader.
Three methods to reduce risk:
- Stay out of the trade – This is obvious but not an easy one for everyone. Fear of missing out is the biggest enemy of every beginner, and I experienced first-hand FOMO by myself. Remember, you are here to stay. Making an uneducated decision is never a wise decision.
- Use a stop loss – Using a stop loss is crucial; if you want to find out more about why that is, click here.
- Reduce your order-size – By reducing your order-size, you reduce your potential gains and your possible losses. Going in all-in is something I do very rarely. If I feel that my risk is too high while trading the markets, I only trade with an amount I feel comfortable with.
To conclude, every trader needs to know how to identify his risk and reduce them if possible. Trading means failing. Failing isn’t cheap, but failing without reducing risk first is more expensive. Use those tips to become more successful with your trading.
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