“Which market should I focus on, or which market is less risky?” This is a question I often get asked, mostly from new traders. It’s a fair question under the premise that trading in a less risky market means you won’t bust out, thus staying alive long enough to ‘get it’.
The answer to this question is quite simple: There’s no such thing as a less “risky” market. All markets are risky because every trade placed on any market is a probabilistic bet. Beginners often confuse volatility with risk. They think a volatile market is riskier than a less volatile market. That’s kind of true but not 100% correct, because a volatile market is more demanding to trade but not necessarily riskier.
To debunk this, let’s look at the process of managing risk (in this case the possibility of losing money). This risk-managing process has 2 components: Cutting losses and bet size. Whether you have 10 years of experience or you’re just starting, one thing is true for all traders: If you don’t cut losses while they are small, they will turn big. That said, they can turn around and become winners, but this scenario is more an exception than a rule.
So, whether you are trading a high-volatility market or a low-volatility market, you need a method of cutting losses, i.e. a stop-loss methodology. The methodology differs at different volatility levels, but the importance of its existence is always true.
Secondly, if your positions are too big, losses will be too big as well, or you won’t have the emotional and psychological staying power to see them through. Although winners are bigger too, the hole dug by big losses is often too deep. You therefore also need a position size methodology, e.g. the 2% rule.
Armed with these two methodologies, one can control risk in any market.
In addition, regardless of the market you’re trading, you need a valid trading method for that market. This method needs to give you an edge, where on a net basis, the sum of winners rand/dollar-wise would be bigger than the sum of losses in a given time frame.
People don’t lose money because they’re trading a particular market, they lose money because they don’t manage risk well or don’t have a valid trading method. And if they do have these guiding principles, they lack the discipline to stick with them, which is the same as not having them at all.
In closing, there’s no such thing as a riskier market. The risk lies with you, the trader.
Traders share a peculiar characteristic: they’re fiercely competitive, but only with themselves. In practice this means that they see every outcome as an opportunity to learn, and they’re brutally honest about both their failures and successes. This also means that they’re hungry for knowledge. They don’t sleep easy with unanswered questions. And they’re seldom satisfied with just one answer.
Find him on Twitter: @njabulo_goje.