How to Use Proper Risk Management in Trading Forex

Leverages and Risks for Forex Trading

The currency market is no doubt a very attractive one and this is the reason why equity traders will often migrate to the Forex market. However, it would be wrong of these equity traders to presume that the formulas that worked in the equity market will work in the Forex arena too. In fact there are two main differences between the markets. One is risk management and the other is current events.

Current events

In the Forex arena there is a need to stay in touch with the day to day happenings in the world since they do affect the Forex market. In the equity arena the decisions that affect the market are more or less taken and traders need not listen to the current news every passing hour. However, in the Forex market, a lot will depend on the current news and one could lose a lot of money if one is not able to stay abreast of the latest.

Risk management

Again, here the Forex market and the equity market are very different. In the equity market there is a direct relation to the value at risk and the account of the trader. So if the VAR falls by 10%, then the account will also suffer a 10% blow. Of course there is the option of leverages. These leverages are what causes havoc in the Forex market.

Leverages in equity – The government allows equity traders to take a 50% loan on the purchase price of the securities. This means that the traders who wish to hold their positions overnight will enjoy a 2:1 leverage. In the case of day traders, this amount goes up to a 4:1 ratio. Now, here things are pretty much in control.

Leverages in Forex – In the Forex market the leverages go up to 100:1 and going by the same rule as discussed above this means that a 1% change in the VAR will cause a 100% change in the account. Clearly this means that the risk factor in the Forex market is very high. A trader cannot afford to take high risks here and since the market too is very volatile, leverages have to be kept in control. A good way to do this is to never risk more than 2% of your account value. So if you have $10,000 in the account, never go beyond the $200 mark. This is the mark where you will place your stop losses. This 2% rule is a great way to ensure that the high leverages of the Forex market do not wipe you clean. Breaking up this 2% into pips will help you to see exactly at what point you should place your stop loss.

As an equity trader making a move into the Forex arena it is important that you tread carefully here. The Forex market is much more risky when compared to the equity market and so caution and knowledge are the two main things to hold onto.