Five Risk Management Strategies For Active Traders In The COVID-19 Era

Thursday, 2 September 2021, 5:35 am
Press Release: Kalkine

Summary

• The present circumstances have created a need for active risk management on the part of traders and investors.
• It seems essential for the modern investor to be well-versed with investment options and appropriate risk minimising measures.
• Investors can embrace some tips and strategies to manage their risk in volatile circumstances actively.

In a volatile trading environment, managing risk is an investor’s utmost priority to cut down on potential losses. Though a certain amount of risk is inevitably attached to every investment, investors usually seek risk mitigating methods when they perceive or expect the markets to be in turmoil. The economic stoppage resulting from current lockdowns has formulated a risky arena for traders while creating a need for active risk management.

Lockdown has been New Zealand’s redeeming feature in the face of the Delta variant and the resultant economic adversity. However, the markets have faced the brunt of this abrupt halt on economic activity, making traders cautious of their investments.

In the current unprecedented times, a sound knowledge of stocks and other investment vehicles does not appear enough for active traders to have prowess in the financial markets. Such traders also need to be well-versed with the tools of risk management. Simply put, just as a seat belt is necessary for a driver, managing risk is a requisite for an active trader.

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Having said that, let us browse through some quick tips for traders through which they can actively manage their risk in volatile circumstances:

Analyse the risk-reward ratio

Investments that offer a higher reward are usually linked to a higher risk level. However, investors should look for a balance between an investment’s risk and reward structure while choosing the one that best suits their financial position and interests.

For a risk-averse investor, it might be a good idea to take only minimal, calculated risks to avoid any possibility of missing out on the invested money. However, a loss of few dollars might not mean much for wealthy investors with a greater appetite for risk. As a rule of thumb, the recommended risk-reward ratio is 1:2. This means an investor must have the appetite to lose out on $2 worth of investment for a potential gain of $1.

Set up a stop-loss order

Novice investors can minimise their losses by setting up a stop-loss order while investing. For the uninitiated, a stop-loss is an order that closes your trading position automatically once a pre-determined level of loss is achieved. The trader sets this level of loss himself while trading in the financial market.

It is a quick and efficient way of stopping your losses below a bearable threshold. Traders often forget the importance of a stop-loss order and end up incurring losses way beyond their capacity. Without a stop-loss order, newbie investors might be discouraged to invest further once they face an overwhelming level of losses.

Diversify to protect

Financial experts have advocated the importance of diversification for years now. Diversification involves refraining from putting all your eggs in one basket or investing all your money in a single asset class.

Investors might often develop an emotional attachment with a specific asset class due to a continued period of profitability in it. However, a streak of gains does not make an investment risk-free. A period of economic downturn or stock market crash can easily reverse the course of gains for even profitable investments.

Diversification allows investors to wade through such challenges and limit losses in an unfavourable market scenario. During tough times, investors can diversify their portfolios while investing in less volatile sectors, which can offset the losses in the affected sectors.

GOOD READ: What are risk-free investments?

Ponder on hedging

Hedging is the method of offsetting potential losses in investment by taking an opposite position in a related asset. Investors can hedge their portfolios through futures contracts or forward contracts, with the most creative method being the use of options.

A downside put option can be used by investors as a protective measure against their investment. In such a case, the holder of a put option possesses the right but not the obligation to sell the underlying asset at the pre-determined price. Thus, if the market price falls below the agreed-upon price, then the put option holder can exercise the option for a profit.

Additionally, a covered call is also a popular alternative to hedge your portfolio, under which a stockholder sells call options against the shares in possession. This strategy allows investors to limit their losses within a known window while preventing losses to spiral out of control.

Keep track of trending events

The present circumstances have seen many new policies and initiatives being implemented in a short span of time. Keeping track of such changes can help investors pick areas that can potentially deliver a higher-than-average reward.

Events such as slow vaccine rollouts, tightening of alert levels and increased fiscal response from the government are some illuminating signs of the slow pace of economic recovery. However, higher vaccine rollouts, declining infected cases are few telltale signs of a looming boom in economic activity. These signs can help investors to time their investments to some extent while rewarding them with significant gains.

Over the previous year, investors have explored many new asset classes, with some mainstream asset options suffering a significant setback due to the pandemic. However, due to the uncertainties caused by COVID-19, it has become a necessity for investors to constantly wear their safety helmets. The above-discussed risk management strategies are such safety hoods for investors to wade through market challenges.

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