Sunday, December 26, 2010

The Wonders of Risk Management Tools!

Over the span of 10 years, i have been trading my stocks based on fundamental and technical analysis tools (Do watch for these postings on how i trade using fundamental and technical analysis). Although the results were great, but they take up alot of my time as you are required to study the trends and company financials to understand or predict where the stock will go. I am not sure whether this is familiar to you but have you always constantly check the price of your stock during your office hours, lunch hours, toilet break hours?? If your answer is a 'YES', then you are not alone. But i gotta tell you this, its not good for the heart. Therefore, i decided to find another method to trade, a method that allows me to sleep soundly at night, concentrate on my work and toilet breaks and lastly one that there are no requirements for me to constantly track my stock trending AT ALL TIMES... Some useful trading techniques which i find very useful include:

Using Risk Managment tools
  • Stop loss
    • This is a strategy to prevent further losses if your stock goes opposite from your expected direction. By placing this order with a broker to sell a security when it reaches a certain price. Therefore a stop-loss order is designed to limit an investor's loss on a security position. I find this useful because it serves as a safety net.
    • For eg. Current stock price is $1, i predicted that it could rise up to $1.50. So i bought 10 lots for $10000. But i was wrong, stock drops to $0.50 on the third day, i loss $5000 ($10000 - (10 lots x $0.50)).
    • What if i put a stop loss at the same time when i bought the stock?Again, I bought the stock for $1, this time i put a stop loss for $0.70. Stock drops to $0.50, but i cut loss at $0.70. I only loss $3000($10000-(10 lots x $0.70)). One good thing about this is you don't even need to monitor your stock all day.
  • Trailing Stop loss
    • Similar to stop loss but with a twist. This order is set at a percentage below the market price and the trailing stop price will be adjusted as the price fluctuates. Eg. Price of stock which you bought is gaining momentum, but you want to hold on to it as you believe it will go even higher.  You are unable to monitor your stock all the time and you constantly fear the stock will slide to the opposite side due to unforeseen events. Therefore you set a trailing stop loss of 20%(This depends on your risk level, how much you are willing to lose), everytime a stock fluctuates, you are given the assurance that as long as the stock drops to your trailling stop loss of 20%, it will sell the stock for you. Therefore limiting you to a loss of only 20% at all times. 
Besides the abovementioned 2 methods, there are quite a few risk management tools to use. But to attract you to continue reading my blog, i will post the other methods at later periods. Hope you are excited about it. This blog is basically a sharing blog,if possible,  i would like to appeal to everyone to comment about the methods or contribute their own methods. By learning from each other, we will be better equipped to tackle the sophisticated world of trading!

All blogposts are strictly for information only and may not be suitable for your financial needs or goals. Please conduct your own research or consult a qualified financial advisor to assist you. The author will not be liable for any inaccuracy.

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