Trading in the stock market comes with promising rewards and risks that you need to manage carefully to make your trading journey more profitable. Compared to rewarding factors, the market is more sensitive towards the risk factors that can make the market highly volatile in various conditions. And this kind of unexpected volatility due to risk factors, your trades can also be loss-making.

Hence, dealing with these risk factors while trading in the market is very important to minimise their impact and avoid unexpected losses. To deal with such risks in the market, you need to learn risk management in trading so that you can manage the various types of risks in different types of market conditions. So, right here, we were going to discuss how you can learn and manage risk management in trading.

What is Risk Management in Trading?

Risk management is simply the process of identifying and evaluating the probable risk factors and protecting against the potential losses that can come due to such risk factors. You can use the various risk management techniques to minimise the impact of such risks and protect your capital from unexpected losses.

To identify or evaluate and prevent your losses, you need to learn risk management and how to manage it in trading for the best results. There are various risk management techniques and strategies in trading, but we will talk about them in another article. Right here, we will discuss how you can learn and manage risk management while trading in the stock market.

How to Learn Risk Management in Trading?

To learn risk management in trading, you need to understand the various aspects affecting the market with theoretical knowledge, practical application, and a disciplined mindset to manage the risks. And when we understand how market reactions in different conditions trigger such risks.

And how these risks can affect your trade positions or put them at risk of unexpected losses. However, below you can find few steps that you can follow to learn risk management in trading.

Understand the Types of Risks

Before you learn how to manage risk, you need to understand what types of risks can affect the market movement. Mainly, there are two types of risks – systematic risk and unsystematic risk, in which the former one is associated directly with the market and can affect the entire market. And most importantly, systematic risks cannot be avoided or eliminated through diversification.

Also Read: Top 10 Things You Should Know Before the Stock Market Opens

Systematic Risk: The systematic risks consist of changes in market movement due to changes in the entire market conditions. The other systematic risks are interest rate risk, inflation risk, political risk and liquidity risk. Not all these risks are associated with individual companies; instead, they arise due to changes in economic conditions of the country.

Unsystematic Risk: This is a company or industry-specific risk that can be avoided or controlled through diversification of trade positions. Under these types of risks, the stock price can be affected by the risk of operational activities and corporate actions by the management of the company. The other risks are credit risk and the risk of regulatory actions by the government authorities.

How Risks Can Affect the Market?

Now you need to understand how these systematic risks and unsystematic risks affect the market. In fact, these different types of risks can affect the market by causing unexpected volatility that can make stock price movement also volatile, leading to chances of losses due to unexpected movements in underlying securities.

The systematic risks can affect the entire market, as they can be caused by the macroeconomic factors, like economic downturns, geopolitical events or changes in the sentiment of the investors. Apart from political instability, changes in interest rates by central banks and changes in the value of the currency, all can affect the market movement, including all the segments.

Also Read: What are the Top Factors Affecting the Stock Market in India

While, on the other hand, unsystematic risks like business operations, credit risks, regulatory risk and performance of the company in terms of financial reporting and management decisions. These types of risks do not affect the entire market; instead, they have an impact on the stock price of the individual companies. And one of the best parts is that these types of risks can be reduced through diversification.

Keep Practice to Gain Experience

To deal with such risks efficiently, you also need a theoretical knowledge and keep practising to gain more knowledge and experience. You can use the demo account to apply the risk management techniques and review your trade positions to timely enter and exit from the position.

Reviewing your trade performances will highlight your strengths and weaknesses. And at the start of trading, you should start with a small amount that will help you to build confidence and learn how to manage such risks even in various market conditions.

Can Consider the Advanced Education

One of the best ways to learn risk management in trading is to join some professional training courses that provide the theoretical knowledge and education about risk management. Here you will learn more about the types of risks, their impact on various conditions and how to manage such risks.

However, it is not necessary to join the high-cost paid courses; you can find affordable online courses offered by SEBI-certified training institutes. You can also explore social media platforms where experienced traders and market professionals freely provide tips and ideas to deal with various types of risk in the market.

How to Manage Risk Management in Trading?

Managing the risk effectively is one of the most important factors to avoid major losses while trading in the market. Managing the risks with the right approach will not only help you avoid unexpected losses but also protect your capital and ensure your prolonged existence in the market.

A disciplined approach to risk management enables you to analyse the level of risks more accurately, so that you can take the right actions to control such risks. It will encourage you to avoid reckless gambling in trading; instead, trade responsibly while controlling your emotions. However, below you can find useful guidance on how to manage risk management in trading.

Create our Trading Plan

Before you enter the market, develop your trading plan or create a blueprint of your prospective trading actions. Define your underlying security to trade, entry and exit points with your targets and stop loss in a particular trade. You also need to set the rules for yourself for trading, stick to these rules, like how much losses you can incur or how much profit you expect from your trade position.

Also Read: What are the Best Entry and Exit Indicators in TradingView

Define Your Risk Appetite

This is one of the most important points to identify your risk appetite, which means how much risk you are ready to take or how much loss you are ready to bear in unexpected market conditions. The best way to estimate that is to use the risk-reward ratio formula to compute how much risk you are ready to take against the potential profits in particular trades. For example, a 1:2 risk-reward ratio means you are expecting a profit of twice as much as you are risking.

Manage Your Capital

When you trade, you need to be careful with your funds in such risky trades. The capital you are going to use in the trade should not affect your financial stability; hence, never use the money you cannot afford to lose. The extra money lying in your bank account, you can put into such risks.

But again, if you don’t have any backups to fulfil your emergent financial needs, don’t use such funds. In trading, you can use the capital amount that you don’t need anymore, so that you can wait to get good returns from your short-term investments or from such trading activities.

Manage Your Trades

Merely entering into a trade position would not be enough to manage the risks; you need to stay active and manage your trades till the trade position is open in the market. Review your trades, analyse the current market conditions and adjust the trade position based on the changing market conditions.

Here you can keep managing your trades using the position sizing, adjusting the stop loss points and taking other trades to hedge your existing trades. If the market is not moving as per your expectations, managing the trades as per the latest changing market conditions is very important to avoid risks.

Manage Your Emotions

While managing the risk management in trading, psychological discipline is one of the biggest factors you need to control to avoid big mistakes. Yes, while taking the trade decisions, you need to control your emotions, as any kind of emotionally influenced decision can put you at high risk.

Also Read: How to Control Emotions in Trading or Trade without Emotions

Hence, you need to stay away from emotions like greed, fear, excitement and distress conditions. Stay rational and stick to your trading plans and rules for trading, or take the right action as per the changing market conditions. Here, you need to understand your risk tolerance and always keep the strategy or trading as per the latest trend in the market while maintaining your psychological discipline to avoid risks.

Use the Advanced Strategies

Last but not the least, one of the best ways to manage the risk in trading is to use the advanced techniques, tools and strategies. Apart from trading with stop-loss orders and position sizing, you also need to use the various technical indicators to identify the latest trend in the market or prospective movement with the right entry and exit points to take the right action before and after entering into the trades.

Moreover, you can also use the hedging trading strategy to offset your existing trade position to protect against adverse price movements. However, it is not possible in the cash market or intraday trading; you can use this strategy in the derivatives market, like futures and options segments. And diversifying your investments or trades is another best practice to minimise the impact of unexpected losses on your trades.

Wrapping-up

Risk management in trading is the practice of avoiding or minimising the impact of various types of risks in the market. However, systematic risks that are directly associated with the market cannot be avoided like unsystematic risks, which are directly associated with the industry or company. Hence, to manage these risks in trading, you need to learn the types and techniques of risk management.

Also Read: How to Predict Stock Market Direction: Important Parameters

You need to understand the types of risks, how they affect the market and gain knowledge through practice to deal with different types of risks in the market. And to manage such risks, define your trading plan, evaluate your risk appetite and manage your trades and capital. And you can also use strategies like trading with stop-loss, position sizing and hedging to minimise the chances of losses in the market.