Money Management Part 2

Money Management

More than ever money management is important. Over the next few months we will be covering various elements of money management. Today we will cover 'Managing your initial risk'.

Part 2: Managing your initial risk

There are two types of initial risk to consider when investing or trading:
1. Monetary risk
2. Technical risk

Monetary Risk: This is the amount of money you are prepared to risk in an investment or trade. It can be a dollar amount or a percentage. This amount should be an acceptable percentage of your total investment capital. Most advisors suggest that you don't risk any more than 2% on any one investment. For example if your investment capital is $50 000 then you can risk $1000 per trade. Traders with good money management skills or smaller investment accounts can risk up to 5%. The lower the percentage risk the better.
Technical risk: This is the risk value to the initial risk exit price. This value is determined by your trading rules. We will look at an example using a simple three day range risk rule on the chart below.

Buy at 'A' with an initial risk at 'B'. Your technical risk is the value between 'A' and 'B' multiplied by the number of shares.

If the technical risk is greater than your monetary risk then you:

Have to reduce the size of your investment.

If it is not practical to reduce the size of your investment to within your monetary amount —then don't take the trade.