Managing risk in volatile markets

Asians have an unsavoury reputation for gambling, and so it may not come as a surprise to hear the comparison between China’s stock markets and casinos. 

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With share prices having few connections to underlying economic conditions, mainland equities have seen an ‘unbeatable’ rally. That was the case, until recently.

Volatility in the Chinese shares pumped up since May. If you look at the average true range of the CSI 300 Index, you will see a huge increase in the value from below 100 in April to around 250 at the end of June.

The explosiveness of the China markets have seen many making outsized profits but also chalking up huge losses, especially if you are trading on the margin.

As far as trading goes, market risks are something you must take into consideration when planning a trade. This is when risk control and trading rules can help you minimise the impact of losing trades and maximise your winning trades.

One quality of professional traders is that they always know how much capital they are risking and what their potential profits are. A key part of risk management when planning your trade is to set your stop-loss and take-profit points. By doing so, it not only allows you to know your potential profits and losses, it also take the emotion out of the trade.

Unsuccessful traders often place a trade without such tools, allowing emotions to take over and dictate their actions. On many occasions, they cut their profits too early or let their losses run.

Another important rule is to never risk more than 2% of your outstanding capital per trade. Please bear in mind that the 2% is not a fixed number. You may set it at 1% or 5%, but it is probably not a good idea to put it at more than 10%.

Entering a trade with a huge chunk of your capital may put you out of the game a lot sooner. By risking only 2% per trade, it means that you would have to sustain 10 straight losing trades to lose 20% of your outstanding capital. This would still leave you with 80% of your account intact.

Successful trading is not just about maximising winnings but also about minimising losing trades. By managing your losses, you are able to weather tough market conditions or a highly volatile environment much better. This means you will be ready to take advantage of profitable opportunities when they appear.

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