Smart trading always starts with knowing how much risk you’re willing to take – what is a comfortable level that you can incur while trading. As trading volatility is a constant concern there exists approaches which do lower your chances of larger losses.
Identifying how much risk is tolerable depends on your individual finances and trading goals. The higher the risk and potentially the higher the returns, while lower risk strategies will likely earn you less.
A simple example will suffice to make the point. If a $500 investment will return you only $50 in profit, but puts you at risk of losing only $50, this trade can be seen as not very attractive. While generating $200 profit by risking still only $50 might seem more worthwhile. By understanding your tolerance for risk, your trading decision will be better formulated.
The objective of lower risk strategies is to make more consistent and steady returns that are more predictable in relation to more aggressive forms.
What is the preferred Low risk strategy?
The most commonly used technique is the classic “buy and hold.” The gist on this one is to avoid constantly changing your portfolio with different assets, while focusing on keeping assets that have provably shown long history of low and steady returns. This form of trading/investing requires a long-term investment approach. The kind of assets you should include are bonds, familiar blue-chip stocks in sectors such as tech, energy, healthcare and financial services.
To achieve the goal of lower returns and lower risk, value investing strategies should be considered. This requires to identify firms with a solid established industry history that may be undervalued compared to peers due to a recent event that hurt their grown. This kind of trading lets you capitalize on the upside – their long history while reducing the downside risk.
How to build your portfolio
The best approach to building your low risk portfolio is by diversifying your assets as much as possible, thereby reducing sudden and steep losses. The general rule is to allocate less than 10% of all your available trading capital into a single asset. For a low risk strategy a mix of stocks and indexes should make up around 50% of your total, with 20% in bonds and another 20% in a precious metal such as gold. The remaining 10%, in an asset such as currencies where higher potential for appreciation exists.
As a cautionary note, there are times when you might be tempted to take a short position on a stock. This kind of trade means that you believe the asset will fall over time. Borrowing an asset to sell and buy back when the price is down can be a profitable trade, but if the price doesn’t go in the intended direction, the losses can be massive. These trades should be avoided if you’re looking to trade within a low risk strategy.
Adapt trading to your circumstances, choose your trading risk level enjoy the thrill of profitable trading