Trading Psychology Barrier: Fear of Risk
One comment we hear a lot as traders is, “Oh, you trade Forex? Isn’t that risky?” Unlike a fear of snakes or spiders, most of the fear people feel concerning the Forex markets stems from either a lack of information or a misunderstanding; however, instead of exercising a fear of risk you can try exercising risk as a tool to help you in your trading.
Let’s take the idea, and associated fear, that the markets are too high-risk. Many believe that becoming involved with trading results in either unbelievable wealth or economic ruin; stories of people being scammed or crashing their accounts have become far too familiar. To succeed in trading, you need to understand risk, and that there are steps you can take to mitigate risk. Shawn Lucas, our head trader, is great at explaining risk; “Nothing is risked until you commit capital,” and the trader is the one who controls how much, and where, they commit their capital.
Understanding Risk
When trading, you’re going to want a plan to help you decide which trades to enter. In order to mitigate risk, you need to understand how your use of risk will affect your trading strategy.
The purpose of building a trading strategy is to establish how much you are going to risk based off the probability of success. For example, let’s say you have a trading strategy that is successful 80% of the time. You want to make $100 for the day, so, for the ease of computation, let’s say you place 40 trades a day. If you risk $5.00 on each trade you can expect to lose $40.00 and make $160.00, resulting in a net gain of $120.00–you’ve already hit your daily goal of $100. You hold the reigns on risk management. When you show an understanding of risk, and the discipline to trade by it, the fear of loss is lost. The Apiary Fund’s Benjamin Formula is great at explaining this concept in more detail, and our risk calculator in our Alveo platform can help traders manage risk even better than before.
Implementing Risk Management
When you’ve calculated how you are going to control risk, the next step is to implement your set risk parameters into your trading plan. One mistake new traders often make is that they start out too big too fast. You’d much rather learn to swim in a swimming pool than in the ocean, so test new, or adjustments to, trading strategies with small lot sizes in a simulated account. It takes time to tweak everything just right to prove consistent profitability.
As you can see, the key to combat a fear of loss is to understand risk. Take a look at your trading strategy–and if you don’t have one, get one–and see if you understand how it decreases your risk. If you can explain the risk management behind your strategy, and prove it, you’ll be better situated to succeed in the markets.
Happy Trading!