When you make the decision to become a day trader, you’re signing up for a multi-faceted experience, to be sure. To begin with, you’re embarking on a potentially rewarding career path filled with possibility. Play your cards right, and you’ll also enjoy an incredible degree of freedom, financial growth, and emotional satisfaction. However, it’s important to understand that the old maxim “no pain no gain” definitely applies to day trading as thoroughly as it does any other professional pursuit.
As a trader, you’ll face many challenges, but one of the most daunting of those will most certainly be risk. Risk can be incredibly difficult for some people to handle, both mentally and emotionally. How you handle it can literally make or break your ability to succeed in regards to the stock market. Even so, forewarned is definitely forearmed, so here we’ll discuss what you as a trader need to know about risk before you dive into the wonderful world of day trading.
Understanding the Relationship between Risk and Reward
The fact of the matter is all investments and stock trades come attached to at least some degree of risk. The potential reward of a given transaction is directly related to that risk. Generally speaking, the higher the risk, the greater the potential reward.
That said, every trader must determine the level of risk he or she is personally comfortable with. If risk is an issue for you, you can certainly choose trade options that come attached to a low risk level. However, it’s important to understand that your chances of that choice yielding a high reward go down as well.
The Fear of Losing Money
The great majority of people care about the same thing when facing a given risk – the likelihood that they’ll lose money if they decide to take that risk on. In reality, the likelihood of losing money versus turning a profit is only one small part of the bigger picture. You’ll also want to make sure you consider:
The fear of losing money is such a challenging obstacle for modern day traders and stock investors because it’s in direct opposition to most people’s reasons for getting into the stock market in the first place. Traders and investors alike are driven by a desire to increase financial stability.
Of course, there are safer, more common ways people choose to build security toward the future. Treasury bonds are a great example. Certificates of deposit from a bank that’s federally insured are another. However, you’ll want to remember what we talked about when we discussed the relationship of risk to reward above. CODs and bonds are very safe options attached to very little risk. However, neither of those options will yield any real growth, in comparison to stock investment or skilled day trading.
How to Manage Risk
Naturally, any day trader that is serious about succeeding and building true financial security will want to know how to overcome their fear of risk. The best way to do this is to establish a solid plan for exiting the market. Even experienced traders can wind up letting their fear of losing money convince them to hold onto a bad stock for much longer than they should have. Here’s how you can make sure it doesn’t happen to you.
Set a Stop
The first order of business is to set your stop orders regardless of the particular strategy you’re executing. This can best be done by examining your charts for levels of supply or demand along with lines of support or resistance and acting accordingly.
Manage Risk by Percentage
It’s also important to stay alert to how much of your account balance you want to risk on a given option. Many choose to do this by making sure that they don’t risk more than 2% of that balance on any one open position.
Smart traders can also manage risk by making sure that they’re properly educated in regards to their pursuits. Take the time to study the market, and keep on top of developing trends to the greatest extent possible. Make sure you take advantage of additional opportunities to learn new techniques as well, especially in regards to risk management, if that’s a concern for you. You’re sure to wind up glad you did.