A Trader’s Relationship With Risk

When I started in this business back in 1987, one of the first events I witnessed was a Market crash now infamously known as Black Monday. When this happened, I was a rookie broker and had very little money, no experience and not many clients to speak of. What came from that experience were some valuable lessons.

One of the lessons I learned was how investors and traders with no plan on how to manage risk can suffer outsized losses when the market sells off in a dramatic fashion. Another was that the market can be an unforgiving place for those that don’t know what they’re doing. In other words, I learned how risk plays such an important role in trading in all markets (stocks, futures, Forex and options).

Scale with one rock on one side and three rocks on the other

Two Aspects of Risk When Trading

Traders Must Be OK with Losing Money

Traders have to be comfortable with taking risk. In other words, they must be willing to lose money (as long as it’s a small amount relative to their reward potential) in order to realize their desired result. This seems like it should be a given, as most traders realize that not all trades will produce profits, but in my experience this is a major challenge for many because most people are risk-averse. This risk-taking mindset doesn’t come naturally because of the strong human tendency to avoid pain and seek pleasure.

For most traders, losing is painful and thus they spend most of their energy in figuring out how to not lose. Some of the action they take in order to avoid losses are things like moving their stops too early, using trailing stops and taking small profits. Unfortunately, as traders eventually find out after doing this for an extended period of time, those types of maneuvers only serve to produce paltry returns if they’re fortunate enough to survive the inevitable drawdowns that come.

Instead, what if traders learned a skill that allowed them to take low risk, high probability trades. This serves two benefits: traders would be less emotional and they would be more mechanical in their process.

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