If you know the rules of this game and play by them, trading can be a very exciting game. A great percentage of retail traders lose money in this game. This is because they neglected the fundamental truth about trading: losing is part of the game — you win some and lose some — but catastrophic losses knock you out of the game.
Here’re 10 ways you can avoid catastrophic losses in forex trading.
Accept the Volatile Nature of Forex Trading
According to the legendary Mark Douglas, trading is such that:
- anything can happen
- you don’t need to know what will happen next to make money
- there is a random distribution between wins and losses
- every moment in the market is unique
- your edge is just a higher odds.
These are the basic truths about trading. You must know and accept them. When you know that wins and losses are random, there’s no point holding on to a losing trade.
Work only with Honest and Reliable Forex Broker
Make sure the broker you are dealing with is an honest one and is fully registered. It must support ECN accounts. You should open only an ECN account. Leave all those STP accounts and their supposed instant execution alone — you don’t want your broker to be at the opposite end of your trade. There will surely be a conflict of interest. You will surely lose with a dishonest broker no matter how great your trading system is. How to select a good Forex Broker!
Be disciplined: Avoid emotional trading
Trade your edge alone and follow your trading plan to the letter. You must avoid trading for excitement or to relieve boredom. You put on a trade only if you see your setup, otherwise, be happy to stay away. Lack of discipline — trading based on feelings — is one sure way to burn your trading account. If you must avoid unnecessary losses and start winning, you must maintain discipline. Read More…
How I Became a Consistently Profitable Trader
Predefine the Risk of Every Trade
Before you put on any trade, you must know these things:
- The dollar amount you’re willing to lose without losing your emotional capital. This amount should not be more than 1 percent of your trading capital.
- The point in the market structure beyond which price crosses, tells you that the setup has failed. This is where your stop loss should be.
- Harmonize the above two, to come up with the position size for that trade.
Accept the risk of every trade: Stop loss is a must
You must have a stop loss for every trade. Be it actual, hidden, or mental stop loss; there must be a point you accept that the trade isn’t working, take the loss, and get out. Don’t be afraid to take that loss. Please don’t try to rationalize it and move the stop loss farther; you will be inviting catastrophic loss if you do. Read More on Stop Loss Strategies
Don’t hold on to losing trades: Hope is for the hopeless.
Avoid holding on to a losing trade that has gone beyond your stop loss level. In forex, hope is for the hopeless. Holding on to a hopeless trade traumatizes you, kills your emotional capital — your confidence — and blinds you from the subsequent trade setups.
Systematically Extract Pips from the Market
Risk only what you can afford to lose
Brokers will try to make you use excessive leverage by:
- the way they talk up the use of leverage
- offering you bonuses.
Know this today; bonuses are hidden ways to make you use excessive leverage. No broker offers you any bonus to trade with; bonus does not count in your margin. The margin call will surely come when your real money gets to the danger line. The bonus will never save you, meaning you only traded at higher leverage. Reject their bonus.
Have a maximum daily/weekly/monthly loss
You must have a maximum number and dollar amount of daily/weekly/monthly losses beyond which you suspend trading for that period — day, week, or month — and do something else to clear your mind and regain your emotional capital.
Do not overtrade
After a series of wins, take a break; go and do something else to clear your head. This will help you avoid overconfidence and the associated overtrading. Trading out of excitement or boredom will make you give back all your profit plus more to the market.
Avoid Revenge Trading
After a series of losses, take a break; go and do something else to clear your head. This helps you avoid anger and the associated revenge trading. Trying to revenge against the market will surely make you lose more. Besides, in that state of mind, you are more likely to hold on to a losing trade which may lead to a catastrophic loss.
In conclusion, trading, just like sports can be very exciting. You must accept losses in order to win. Refusing this would mean inviting catastrophic losses that knock you out of the game — the only real loss. It’s all about having a system in place and trade in diligently without fear of losing… because a good system will provide you positive results in the long run.
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