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
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.
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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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