10 Risk Management Techniques for Crypto Traders
Risk management is one of the most critical topics you will ever read about in crypto trading. Ironically, it’s often overlooked!
But what is risk management? And why is it important?
Risk management entails individual actions that protect traders from potential losses. While some people may assert that more risk would also mean higher chances for better returns, often than not, it results in massive losses.
Therefore, managing risk to minimise losses is a critical strategy that every crypto trader should learn. In this article, we explore ten risk management techniques* for crypto traders.
Let’s dig in.
*Remember, this is informational only. Do not take this as personalised financial or investment advice.
1. Have a Reason for Entering Each Trade
Never enter a trade without an apparent reason. If you want to be in a trade for the sake of it; entering one as another closes out, you are probably gambling or addicted to trading. And this can quickly drain your account!
It is vital to be systematic and well structured in your approach; know why you are entering a new trade and what you need to do afterwards. It is always better to not trade at all than trade haphazardly and lose a lot of money in the end.
2. Set a Clear Target and Stop Loss
Having a clearly defined target before you execute a trade is essential, but a clearly defined stop loss level is even more critical.
This is crucial because most traders have a tendency of falling in love with a trade. Even when they are making losses, they hold on hoping the trend will turn back in their desired direction. They let it sink and totally ignore the stop loss they had defined at the start.
When the market is trending in their favour, they get elated and forget or ignore to exit the trade at the target they had initially set. So, when the market suddenly starts to retrace, they are shocked, and not even at this point do they think of taking their profits. They hold hoping the trend will resume.
Unfortunately, emotional trading will not give you the kind results you are looking for. Profitable trading is all about reason and rationality. You just can’t ignore discipline.
3. Prioritise Strategy over FOMO
While trading is a game of reason, fear of missing out (FOMO) is a valid emotion that most traders experience when the markets experience sudden volatility. You may feel like it’s a great opportunity which may not present itself again.
If you have ever jumped into a trade too early (without confirmation) simply because you did not want a miss a big opportunity, that’s exactly what we are talking about.
For instance, trend exhaustion candlesticks may suddenly appear on your crypto charts after an extended market rally, and entice you to trade against the trend in anticipation of a significant reversal.
Do not be fooled by trend exhaustion candlesticks that “appear in the middle of nowhere”. More often than not, trading such signals ends badly. Wait and see what happens next. Instead of chasing the market, only consider high probability trade setups that form near crucial support and resistance levels.
Remember your entry point should be well planned to ensure your decisions are rational, not emotional.
4. Calculating the Potential Risk vs Potential Profit
Understanding your risk-reward ratio will a long way in improving your chances of becoming a successful trader in the long run.
Only consider trade setups that have the potential of making more than two times the amount you are risking.
Here's a simple formula for calculating your risk-reward ratio:
RISK/PROFIT = (Take Profit - Buy position) / (Buy position - Stop Loss)
For instance, a trader buys BTC at $11,000, sets his take profit at $13,000, and stop-loss at $10,000:
(13,000-11,000)/ (11,000-10,000) = 2
Since the reward here is two, this may be considered as a worthy trade.
5. Money Management
When determining the risk of each trade, money management is also indispensable. Traders should only risk 1- 2% of their trading capital per trade.
For example, you could have $10,000 as your trading capital, and expose $100 to buy BTC. This is a reasonable risk as it is 1% of your trading capital.
6. Keep 30% of Your Trading Capital in Stable Coins
Most cryptocurrency markets are highly volatile. For example, it’s not strange for Bitcoin to achieve massive price fluctuations in a short time.
As such, volatility is a double-edged sword. Traders can make lots of profits or equally lose money. So it is sensible to keep a portion of your trading capital in stable coins, and 30% is a reasonable amount. These can efficiently serve as a contingency in a worst-case scenario - for instance, if you’re liquidated.
7. Diversify Your Portfolio
As the age-old adage suggests, never keep all your eggs in one basket. Besides keeping a portion of your trading capital in stable coins, crypto traders should diversify their portfolio.
Diversification increases your chances of survival, even when the crypto market is highly volatile. Some traders diversify their portfolios in this ratio: Bitcoin - 40%, Stablecoins - 30%, Ethereum -20% and Fiat -10%.
8. Don’t Trade Against The Trend
Remember, the trend is always your best friend. Markets often move in the direction of the pattern because that is the path of least resistance.
If a trend is bearish - do not buy. Wait for a retracement and sell. Likewise, when the trend is bullish - it’s risky to sell. Wait for a pullback and buy.
9. Only Invest what you can Afford to Lose
This sounds like obvious trading knowledge, but many traders are blinded by ambition and ignore this risk mitigation technique. If you can’t bear its loss, don’t invest it!
Just like other investments, crypto trading comes with reward and risk. You do not make money overnight. It requires patience to make long-term profits. Therefore, be sensible with your money and only invest what you can afford to lose if the market doesn’t favour you.
10. Keep a Trading Journal
A successful trader keeps a trading journal in which they document trades. This is instrumental in determining what is working and what isn’t.
Include technical details such as trade entry and exit points, and the rationale behind your decision. If you changed your plan, write down the reasons and what the outcome was. A trading diary will help you learn from your mistakes, and accept responsibility for your losses.
Risk management is a crucial component of crypto trading. Knowing everything possible to avoid severe losses has proven many times to turn a losing strategy into a winning strategy.
We hope this article helps you minimise your losses and maximise your profits. Happy trading!
About the author:
Jay Jackson is a blockchain enthusiast and a freelance writer at topcryptowriter.com. He works closely with brands (people, businesses and startups) in the crypto sphere. He currently writes Blog posts, Guides, Press releases, ICO reviews, eBooks & Whitepapers. You can find him on LinkedIn.
The above references an opinion and is for informational purposes only. Do not take this as personalised financial or investment advice. The views expressed by the author do not necessarily represent the opinion of BitPrime.
Last updated: 10/10/2019