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Ten rules of risk management

Here is a list of ten ways to manage the risks in your trading. Most of them are common sense, but a few can be challenged.

risk management

Somewhere along the way a while back (I think first started this draft in late 2011!) I came across someone’s Ten Rules of Risk Management. Unfortunately, at this point I don’t recall whose it was or where I found it. I think they are work discussion, though, so here they are:

  1. Trade with stop loss orders
  2. Leverage to a minimum
  3. Trade with a plan
  4. Stay on top of the market
  5. Trade with an edge
  6. Step back from the market
  7. Take profit regularly
  8. Understand currency pair selection
  9. Double check for accuracy
  10. Take money out of your trading account

I would probably move #5 to the top because if you don’t have an edge the rest of it doesn’t really matter very much. Admittedly, though, when you’re a new and developing trader you’re still trying to figure out what edge you can apply. In which case, the other things tend to fall in to the category of “How to lose as little as possible during the learning phase”.

There are some potential problems with #7. If you’re taking profit regularly you run the very real risk of exiting trades too early. That’s something which can very seriously impair your performance, especially for certain styles of trading (like trend following).

I also have a bit of a niggle with #10. If you’re long-term objective is growth of your capital -as opposed to trading for a living – then the compounding factor only works if you keep the money in your account. Or maybe better stated, it only works of you are trading based on the full amount of capital.

For example, say you run a $10,000 account up to $20,000. You can take the $10k in profits out, but to allow for the benefits of compounding you’ll want to trade as if you had $20k in terms of your position sizes. If you don’t, while you’ll still produce profits (assuming you’re a net winner), those profits won’t increase in size over time.

The rest of the list is all fairly common sense.

By John

Author of The Essentials of Trading

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