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Leverage Trading

Leveraged Risk Management

Why is risk management important?

Risk management with leveraged trading is extremely important because it protects the trader’s downside when positions don’t go as planned. The whole concept of risk management is to minimise loss, not to avoid loss. It is simply impossible for traders to avoid losses, they will be a regular occurrence, the only difference is how they are managed. Managing risk essentially protects the trader’s capital, traders must be consciously aware that a bad trade cannot ruin a whole account. Therefore, it is important to balance a portfolio so that it can adhere to sudden bad trades and or market changes. 

There are many different types of risk management strategies out there to help trader perform efficiently and effectively.  The following are some of the key strategies that are used when it comes to leveraged trading. 

-Trade plans
-Stop Loss Orders

-Position Sizing

-Laddering In

-Scaling Out

Trade Plans

A trading plan is a key component in a trader’s routine, it helps solidify where trading activities need to be taken on the chart. That is when certain actions need to be taken when assured criterions are met. A plan will help traders avoid unnecessary decisions such as impulsive entries and exits. Trading plans outline rules that must be adhered to, breaking them will mean there are psychological issues that need to be addressed.

Furthermore, trading plans should be written but they can also be adjustable when new market information becomes available. This is because dynamics in the markets shift because probabilities are constantly altering. A well-defined trading plan needs to accommodate for all potential outcomes. It is the trader’s job to follow the plans and act in harmony.

Stop Loss Orders

As discussed earlier, stop loss orders are designed to limit the downside of a position that goes against a trader. It is important for traders to define their stop loss levels before executing on any trade. This ensures that the amount risked on the trade is known beforehand. Being comfortable with what is at risk will make the emotional swing less painful. Traders should adopt a habit of accepting the loss prior to its occurrence, to do this, they need to predetermine how much they are willing to lose.

Once in a trade with a defined stop loss, traders should avoid at all costs to not move the stop loss level around, especially if there are signs of the trade going against them. This unfortunately is a phenomenon that most traders struggle with. They move their invalidation levels around during the trade, which often leads to larger losses. Having a good system on placing stop loss orders will ensure capital protection and longevity in the game.

Position Sizing

To be profitable at scale in leverage trading, traders need to understand the concepts behind position sizing. The idea behind position sizing refers to the size of a position held in a leverage trade in respect to the account size. Carefully understanding position sizing will allow traders to determine the dollar value that they can risk on any given trade. This ideally helps traders maximise gains with minimal loss and or risk. 

The size of a position is deemed in respect to the size of the actual trading account. In this instance, traders must determine how much of their account they would like to risk, which is generally 1% to 2% on each trade. Once this is determined, the Trade Risk then comes into play. This is when traders determine things such as stop loss placements and entries and exits of the overall trade.

Scaling in and Scaling Out

This form of risk management is not only common amongst leveraged trading but also all other forms of trading. Scaling in and out is a systematic process where the trader aims to average down and or up in an active position. They are essentially adding to their positions to get the best average price as possible. The average price needs to be as close to invalidation, this helps reduce the actual risk involved in the trade.

A rule of thumb is that traders should not scale a trade more than three times. Following this rule is critical as it helps to stop traders from over-entering positions. If a trade goes against at trader who has scaled multiple times, the loss will be compounded. Again, limiting the amount of scale in and out is critical for this risk management strategy.