Risk arises when the funds are exposed to trading for return because risk and return is the part of any type of business trading. Therefore, it is essential to calculate the risk and initiate proper steps to minimize it. There are so many tools and techniques which are used to curtail the risk arising in cryptocurrency trading. However, we can see a few basic risk management and position sizing. Since more the position means more the risk as well as chances of sizeable returns. So, we will see here the position sizing in cryptocurrency as well.
A. Basics of Risk Management
Basic risk management implies that there is a minimum procedure to be followed while trading in cryptocurrency to calculate the risk and reward ratio for return. Risks are always associated when your cryptocurrency are exposed to trading in contract for differences (CFDs). There are few basics points which could help to manage the risk which is given below.
1. Controlling Losses
One the of major aspects of any trading is to control the prevailing losses in the cryptocurrency trading as accumulated losses may sweep the bigger amount if that is not restricted logically. Therefore, you must have calculated exit point for every trade, and if that executed trade reaches the desired point, then it should be triggered to avoid further losses. You can calculate the stop loss point (SL) with the help of pivot points, support & resistance, moving averages or average true range (ATR). SL should be followed without any doubt as it is part of the risk mitigation process.
2. Leverage and Exposure
More the leverage, more the exposure of risk and reward. You should understand that the leverage provided by a particular exchange in a particular cryptocurrency pair then you need to calculate how much it will impact your profit and loss per tick movement. Thereafter, you have to calculate the impact of maximum daily movement in your trading account. When you know the impact on your trading account, then it will be easy to decide for fund exposing limit. Otherwise, in unfavourable directions, your account may bear the unexpected loss.
3. Risk and Reward Ratio
Risk and reward ratio is a crucial measurement before starting the cryptocurrency trading, and this ratio could be 1:2 or 1:3. Risk can be thought to be stop loss (SL), and reward could be understood for take profit (TP). Such a ratio is followed strictly as it is also a part of risk management and used worldwide by cryptocurrency traders.
4. Controlling Emotions
Emotion in trading is considered to be wrong as it deviates from your trading plan. Once the trade plan is set up, then that should be followed despite any divergence. There are several kinds of emotions which are greed, frustration, worry, fear, hope and regret et cetera. You cannot eliminate 100% from your trading, but you can minimize these human emotions as much as possible. It requires proper trading plan and trade set up to overcome emotions, and you can read our other blog to know in details regarding how to manage emotion.
B. Position Sizing:
Determination of position sizing is important for cryptocurrency trading as it helps for the proper trading plan and risk management. It can be calculated mathematically by the formula given below.
Position Size = Risk Amount / Distance to Stop Loss,
Where risk amount is the amount percentage willing to lose.
Distance to stop loss is the difference between entry and stop-loss point.
Position size should be logical as it intensifies both the loss and profit because of the leveraged nature of the trading contract. Position size should be lesser than the expected accumulative loss amount, and there must have enough free margin also.
As explained above, we have come to know that basic risk management and position sizing are very important in cryptocurrency, which helps us for good trading and returns. Here we can summarize the above discussions in short.
- Proper calculation should be done for take profit (TP), stop-loss (SL), position size, free margin and percentage of the account balance for each trade.
- Stop-loss (SL) should be implemented to protect unexpected loss.
- Learn the leverage and its impact on trading P/L.
- Emotions should be kept aside.
Use the technical, fundamental and risk aversion tools.