<p><strong>Risk management</strong> is the systematic process of identifying potential trading losses, assessing their likelihood and impact, and applying controls to keep exposure within acceptable limits. In the context of leveraged products such as forex or CFDs, where price movements can quickly amplify both gains and losses, effective risk management is essential for preserving capital and maintaining consistent performance over time.</p>

<h2>How It Works</h2>
<p>The first step is <strong>identification</strong> of risks, which includes market volatility, leverage levels, liquidity constraints, and event‑driven shocks. Traders then <strong>measure</strong> each risk using tools such as value‑at‑risk (VaR), standard deviation, or simple percentage‑of‑equity calculations. Once quantified, <strong>controls</strong> are applied: setting <strong>stop‑loss</strong> orders to cap downside, adjusting <strong>position sizing</strong> to limit the amount of capital at stake per trade, and diversifying across instruments or strategies. Ongoing monitoring ensures that positions remain within pre‑defined risk thresholds, and adjustments are made when market conditions change.</p>

<h2>Why It Matters for Traders</h2>
<p>Without disciplined risk management, a single adverse move can erase a significant portion of an account, especially when using high leverage. By controlling the size of each position relative to total equity, traders reduce the probability of ruin and improve the likelihood of surviving losing streaks. Consistent use of stop‑loss orders protects against unexpected news events or gaps that can occur outside regular trading hours. Moreover, a clear risk framework supports psychological stability, helping traders stick to their plans rather than reacting emotionally to short‑term fluctuations.</p>

<h2>Example</h2>
<p>Assume a trader has a $10,000 account and wishes to risk no more than 1 % per trade. The maximum monetary risk is $100 ($10,000 × 0.01). If the trader identifies a setup where the stop‑loss is 50 pips away from the entry and each pip is worth $10 for a standard lot, the position size that yields a $100 loss is 0.2 lots ($100 ÷ (50 pips × $10/pip)). By executing a 0.2‑lot trade with a 50‑pip stop‑loss, the trader adheres to the 1 % risk rule, preserving the bulk of the capital even if the trade goes against them.</p>

<h2>Key Takeaways</h2>
<ul>
<li>Risk management begins with identifying and quantifying potential losses before entering a trade.</li>
<li>Core controls include setting stop‑loss levels and calculating appropriate <a href="/NewSite/encyclopedia/position-sizing/" class="ency-link">position sizing</a> based on a fixed percentage of equity.</li>
<li>Consistent application protects capital, reduces emotional decision‑making, and enhances long‑term profitability.</li>
<li>Platforms such as MetaTrader 5 provide built‑in tools for setting stop‑loss orders and monitoring exposure in real time.</li>
</ul>