Introduction

If you’ve been trading Forex for any length of time, you should be well acquainted with risk management. However, if you’re still new to Forex Trading or are still learning about it, risk management might be a new concept for you.

However, although most Forex traders know what risk management is, they might still be making several mistakes when it comes to managing risk in Forex Trading.

In this article, we will cover some of the common risk management mistakes Forex traders make and how you can avoid making the same mistakes.

Over Leveraging

Leveraging is a powerful tool, but it is also a double-edged sword. Leverage enables you to trade a significantly larger amount of capital than what is in your account.

For example, using leverage of 100:1, you can trade $100,000 with only $1,000 of capital. Sounds great, right? It is great – when the trade moves in your favor!

However, if the trade moves against you, your losses are also amplified by the same ratio. That’s why it’s so important to use leverage smartly and not just allow the allure of large gains to cause you to overleverage.

Moreover, if you are going to use leverage at all, ensure you understand how it works.

Neglecting Stop-Loss Orders

A stop-loss is one of the foundations of an effective risk management strategy, and ignoring it can have dire consequences.

What exactly is a stop-loss order? It’s essentially an order you place on an open trade, which will be executed once the trade reaches a certain ‘loss.’ A stop-loss order can either be a monetary value or a percentage value.

The question some traders have is, ‘Why would I close out a trade for a loss’?

The simple answer is, ‘To prevent further losses’.

When a trade moves against you, it’s tempting to think it will turn in your favor and become profitable. However, this is just a hope – not a good strategy. It’s better to take the loss and move on to the next trade.

Neglecting Take-Profit Orders

A take-profit order differs from a stop-loss order in that, instead of closing out a trade at a predetermined loss level, a take-profit order does the opposite. It closes out a trade at a predetermined profit level.

Again, this might not make sense to new traders. However, it’s often better to lock in profit at a predetermined level rather than risk the trade reversing and your winning trade becoming a losing trade.

Risking too Much Capital

A good rule of thumb is to risk no more than 1-2% of your trading capital in any one trade. This way, the losses are not massive if a trade moves against you.

Of course, this can work against you – if a trade moves favorably. However, it’s better to aim for consistent, smaller wins (and limit losses) rather than risk losing a substantial portion of your trading capital through one bad trade.

Lack of Diversification in Risk Management

When it comes to risk management, just using one strategy is not enough. For example, if you have a stop-loss order in place but still risk too much of your capital on one trade, your risk management is poor.

Another example of poor risk management would be trading neglecting to use a take-profit order just to have a winning trade reverse and stop out for a loss.

These examples highlight just how a lack of diversification can hurt your trading. All the risk management tools and techniques should be used in conjunction with one another to create an effective risk management strategy.

Neglecting the Emotional Aspect of Trading

The emotional aspect of Forex Trading is huge. If you can’t control your emotions, you will struggle to be a consistently profitable trader.

What does poor risk management look like when it comes to the emotional aspect of Forex Trading? It’s usually driven by either fear or greed.

A trader who cannot control their emotions might engage in ‘revenge trading.’

Revenge trading is when a trader tries to compensate for a trading loss by quickly executing another trade – when the opportunity is perhaps not there.

However, a trader who neglects the emotional aspect of trading might also not use a take-profit order out of greed or risk too much capital in the hopes of ‘hitting a home run.’

These are all examples of poor emotional control when it comes to risk management.

Not Keeping a Journal

Another common mistake when it comes to risk management in Forex Trading is not tracking trades – or not keeping a trading journal (where trades should be tracked anyway).

Why is it important to track trades and keep a trading journal? Firstly, it enables you to clearly see your trading results, including profit and losses. This gives you a clear picture of what is and is not working. It’s easy to think something is – or isn’t working, but the profit and loss stats never lie.

Secondly, a trading journal is an excellent way to help manage your emotions. You can use it to jot down your feelings – including when you feel greedy or fearful.

Journaling your emotions is a great way to pinpoint them and empower you to recognize and better manage them, ultimately resulting in more effective risk management.

Overconfidence

Another common mistake when it comes to Forex risk management is overconfidence. Why is overconfidence a mistake that affects risk management? Because it causes people to let their guard down.

Instead of thinking about how to protect themselves against risk, they become overconfident and think, ‘That can’t happen to me.’ Overconfidence leads to poor risk management and big potential losses in the Forex Market.

Conclusion

If you want to become a consistently profitable trader, you will need to manage risk well, which means you will need to avoid the common risk management mistakes many Forex traders make.

It’s not enough to just apply one or two risk management techniques, as risk management needs to be looked at holistically rather than in isolation.