You’re no stranger to risk when you are in the fast paced world of forex trading. Any investment carries a risk of loss, but when you begin trading forex, you are operating directly with money. In many cases, you are investing large sums of money. You stand to make a lot of profit, but you need to also understand and manage the risks involved before you invest.
Understand the Risks
- Risk of government interaction with the market: You never know when you are investing in foreign currency when a country’s government might step in and interfere with the free trading of their currency.
- Interest Rate Risk: The value of currency is often tied to the interest rate the central bank in the nation sets. This can often change from time to time and affect your investment.
- Exchange Rate risk: The price of currency changes quite rapidly during a trading period. You need to have a clear idea of what kinds of fluctuations to expect.
- Lack of a Main marketplace: Unlike the stock market, there is no central trading marketplace. You rely on your trader’s honesty for accurately setting the prices of the exchange rates. It’s all the more important to establish a forex trading account with a reputable dealer.
- Forex Scams: You need to screen your broker carefully before investing your money. Reliable brokers are always registered with their respective government agencies.
Control Your Losses
One key way to manage your risk is to control your losses. Before you invest, calculate how much money you can afford to lose on a given trade. Set a limit for yourself for when to cut your losses.
You can set a stop loss on a trade, so that your position is automatically sold when it goes down to a certain price. This will automatically stop your losses before they get too high.
Some people don’t like to use an automated stop loss system as they give up some control over their investment. Another problem is that a sell may be triggered by a normal market variation and you end up selling an investment at a loss when it would have normally recovered. In this case, you can set your own mental limit for when to sell. But make sure you stick to your rule.
Don’t fall into the trap of lowering your stop loss limit in the hopes of a recovery. Stick to your initial assessment and limit your losses. This takes self control, but it will save you money in the long run.
Control Your Lot Sizes
One mistake that people often make is over investing. It can be easy to invest too much money. Don’t invest more than you have. This often happens when someone begins to invest on a margin. It’s a risky business.
It’s better to start small and invest in smaller amounts. Stay conservative. Not everyone has thousands of dollars to invest in foreign currency. It’s ok to start small and build up.
Also, don’t try to leverage a small amount of money into a big investment using margins unless you understand the risks involved. This is one way to lose all your money quickly.
You are much better off staying small and taking your time to invest conservatively.
Track Your Investments Carefully
It can be easy to spread yourself out too thin. Reducing the size of your investment is a good start to limiting your risk, but if you have multiple small investments it can still add up to a lot of money.
Remember investing $1000 in one country is the same risk as investing $100 in ten different countries. In the case of forex trading, it’s even more important to track your currency pairs so you know how your individual investments affect your overall portfolio.
The bottom line is any investment carries some risk. Before you put your hard earned money into any investment, learn to manage your risk. These are just a few tips for limiting your risk if you decide to enter the world of forex trading. But there are many pitfalls. Do your homework and invest wisely and carefully.