The Best Practices To keep In Mind To Avoid Excessive Risks In Day Trading


Risk management practices can help you take the edge off losses. While betting your money, risk management ensures that you don’t lose it all recklessly.

After winning a handful of money while trading, people tend to be driven by overconfidence and hubris, leading them to make incautious decisions.

There are specific techniques you must follow while day trading so you wouldn’t lose your money as you earn it.

Being a successful trader isn’t just about who earns the highest amount, but the one who maximizes his profits and minimizes their losses.

Practices To Help Diminish Risks in Day Trading

The Best Practices To keep In Mind To Avoid Excessive Risks In Day Trading

You must devise a technical and objective approach to reduce losses using stop orders, profit-taking, and protective puts to stay afloat in today’s competition.

Plan Your Trades

Before actually jumping into trading, you must have a thoroughly devised strategy. Successful traders often quote the saying: “Plan the trade and trade the plan.” You must plan and formulate effective trading techniques to stay ahead of the competition.

Day trading often involves closing all trade deals and executing trades before the market close. Hence, you need to realize the significance of time while trading stocks during the day.

You need to ensure that your broker is the one for frequent trading. Some brokers are more inclined to customers who trade irregularly. They charge high commissions and lack the right analytical tools active traders use.

Stop-loss (S/L) and take-profit (T/P) are the two primary ways traders can use to plan when trading. It is always a characteristic of a successful trader to know the right price to pay and the right price to sell.

These traders then compare the final returns against the expectation that the stock meets their desired parameters. If the adjusted return turns out high, they execute the trade. 

Work With The One-Percent Rule

The one per cent rule of thumb states that you mustn’t use more than 1% of your trading capital in a single trade. This implies that if you have $50,000 in your trading account, you should not put up more than $500 in any transaction.

Some traders can even go to 2% if they are confident enough and can sustain the loss. It is always considered wise not to be greedy and balance your hunger for profits and the risk of losses.

You can place a limiting bar on your losses by keeping the rule below 2%, above which you risk losing a substantial sum of your trading capital.

Keeping Track of Stop-Loss and Take-Profit Points

A stop-loss point is a price at which a trader might want to sell a stock and sustain a loss on that sale. A stop-loss is implemented when the trade doesn’t bear the anticipated fruit.

The points are created to prevent the mentality of false hope that the stock might rise again and limit losses before getting any worse. If a stock plunges below a critical support level, it is sold off by traders as soon as viable.

A take-profit point is the desired price at which a trader intends to sell a stock and claim a profit. This occurs when the additional upside is limited compared to the risks. Usually, when a supply approaches a critical resistance level after a significant upward move, traders would want to sell it off before a period of consolidation occurs.

Alpaca is a technology company that modularizes the world’s asset management activities. You can learn all about the concept of a wash sale, which is an important parameter to consider while trading and trying to avoid losses. 

Setting Stop-Loss Points Correctly

While setting stop-loss points, technical and fundamental analyses need to be considered.

For instance, if a trader holds a stock ahead of earnings with the building of excitement, he/she might have to sell before the news hits the market in case expectations escalate, irrespective of whether the take-profit price has been achieved.

Moving averages is one of the most popular ways to set these points, as they are easy to calculate and are tracked widely across the market.

You can also place stop-loss or take-profit levels on support or resistance trend lines. You can obtain these lines by connecting previous highs or lows on significant, above-average volume.

These points must be set meticulously; thus, you need to consider some issues that include –

Implementing longer-term moving averages while trading in volatile stocks. This would ensure that a random price swing doesn’t unnecessarily trigger stop-loss.

Tweak the moving averages to match the target price ranges. Traditionally, more extended targets employ broader moving averages to depreciate the total number of generated signals.

Stop losses mustn’t be closer than 1.5-times the current high-to-low range, as it would get executed without any reason.

Check the market’s volatility to adjust stop-loss. If the stock price is more or less oscillating within a compact range, then you can place a tight stop-loss.

Use familiar fundamental events, including earnings releases, to be in and out of trades in case volatility and uncertainty surface. 

Computing Expected Return

Stop-loss and take-profit points are necessary factors to calculate the expected return. This forces traders to think through their trades for a chance to rationalize them thoroughly.

You get a systematic way to compare various trades and shortlist only those that show promise of profits.

To calculate the expected return, use the formula –

[(Probability of Gain) x (Take Profit % Gain)] + [(Probability of Loss) x (Stop-Loss % Loss)]

The possibility of gain or loss can be extrapolated through historical breakouts and breakdowns from the support or resistance levels.

Diversifying Your Trades

Always choose to trade in different stocks, not just in a single domain. If the trade doesn’t bear fruit, all your invested capital would be for nought.

Continuously diversify your trades across industry sectors, market capitalization, and geographic regions. This would expose you to new opportunities and help mitigate risks.

Downside Put Options

If you have been approved for options trading, investing in a downside put option can be used as a hedge to truncate losses from a sour trade.

A put option empowers you with the right to sell the underlying stock at a fixed price before the option finally expires.

Final Words

Traders must know when they plan to enter or exit a trade before execution.

Using stop losses proficiently, a trader can alleviate losses and the number of times a trade gets unnecessarily excited.

The bottom line is to plan your battle to ensure all the conundrums and dilemmas you could land in and ways to secure profits.

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