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3 Money Management Techniques to Reduce Trading Risks

What sets apart a beginner trader's trading opportunity from that of a professional? According to Boris Schlossberg, the answer is Money Management (MM). He emphasizes that a career in forex requires effective trading risk management so that one trading decision does not wipe out all previously gained profits.

  1. 1. Discipline with Stop Loss


  2. The first step in implementing money management is by using Stop Loss. Larry Hite, a day trader and trend follower, suggests not risking more than 1% of total equity in each trading position. By limiting this risk, traders can preserve most of their capital even during a series of losses.


  3. 2. Risk:Reward Ratio


  4. Implementing a Risk:Reward ratio is a crucial strategy in money management. By using a 2R ratio, traders can ensure that potential profits outweigh potential losses. In the example given, even with a win rate of only 40%, traders can still make a profit because of the balanced Risk:Reward ratio.


  5. 3. Stop Loss Placement Techniques


  6. In addition, there are three Stop Loss placement techniques based on money management that can help reduce trading risks:

a. Equity Stop

This technique involves setting Stop Loss based on a certain percentage of total trading equity. For example, by limiting risk to 1%-3% of total equity, traders can set Stop Loss at 10-30 pips on each trading position.

b. Chart Stop

This technique relies on signals from technical indicators to determine Stop Loss positions.

 

By observing candlestick patterns or other indicators, traders can place Stop Loss more accurately, anticipating unwanted price movements.

c. Margin Stop

This technique is generally recommended for experienced traders with large capital. Traders divide their capital into small portions to be traded, while the rest is kept in the bank. With leverage provided by the broker, traders can trade those portions of capital with margin stop as a loss limit.

Money management is one of the critical aspects of forex trading that is often overlooked by traders, especially beginners. However, by implementing these principles with discipline, traders can reduce trading risks and increase their profit potential.

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