3 Risk Management Techniques for Cryptocurrency Trading
Trading cryptocurrency is an activity that has become more and more popular with countless individuals trading with the sole intention of generating consistent and profitable returns from the market. An outsized reason that leads to being a successful trader is the implementation of strict risk management practices. Using proper risk management can often be the difference between making consistent returns and losing your capital. During the course of this article, we will explore some popular risk management techniques that you simply need to use in your trading.
Stop Losses and Take Profit Targets
The first risk management technique that all those who trade crypto should be doing is setting stop loss and take profit targets. Stop losses are key because they limit your potential losses in the event that a trade goes against you. In a similar vein, take profit targets are vital for traders because the use of them locks in any profit you make as a result of a trade going your way.
A lack of a stop loss or take profit targets can very often be problematic for traders. For instance, if no stop loss is placed, there is a distinct possibility that a trader will be unwilling to close a losing trade because he or she believes that it will rebound in their favour. Crypto trading bots and signal groups (e.g. crypto signals) are useful tools in allowing traders to place their stop loss and take profit target before getting into a trade.
Another important risk management technique all traders should be using is position sizing. The concept behind position sizing is that a trader shouldn’t risk 100% of their trading account on any one trade at a given time. This is to prevent a trader from blowing up their account and drastically reducing their capital balance if a single trade was not to work out in their favour. Instead, a trader should be using a fixed percent of their balance, e.g. 1%. This adequately allows the trader to properly manage their risk as they fan focus on generating consistent returns as opposed to worrying about losing the entirety of their account balance.
Moving on, understanding the potential risk/reward ratio of a trade before it’s placed is additionally vital to be a successful trader. If a trader can fully determine the return they can expect to make against the risk they’re taking on, then they’re far more likely to only take trades with a higher probability of success. Meaning that over the course of a trading career, a trader should generate a net return as they are only taking trades with a favourable risk/reward ratio.
The formula for calculating risk/reward is as follows:
(Target – entry)/(entry – stop loss)
You can also use the below as a rough guide for determining the risk to reward of a trade:
- 1:1 is breakeven
- 1:2 is great to trade
- 1:3 is even better and is a perfect ratio
Anything less that a 1:1 risk/reward ratio is considered to be an unfavourable trade and is generally not advised.
Risk management is very important in becoming a profitable trader, and as a result, it should be taken seriously by those who are new to trading. These are just some of the ways good traders are ensuring they make a return as opposed to a loss at the end of the month.