Why determining your risk tolerance is a vital part of learning to trade

Investors often find that although there is a very wide and diverse range of financial instruments that can be used to invest, certain factors remain the same in all markets. The most important of these is the need to determine and define individual risk tolerance. Without a comprehensive understanding of what this is and how to trade in accordance with it, investors will always be at risk of making hasty decisions that encourage outright losses or reduce their potential profits.

In its clearest and most basic sense, your risk tolerance is the amount of money you can comfortably afford to lose without falling apart emotionally or putting yourself in a position where the loss might force you to leave the market altogether. If you are ever in danger of betting or leveraging more than this amount, serious trouble can be sure. More importantly, they will usually be problems that you have created yourself.

Decisions that drive fear are rarely well thought out. When people have put themselves in high-risk situations, they tend to take quick action to control their results. With binary options, this usually means paying extra transaction fees to have the trades stop immediately and completely. The goal of these hasty efforts is to minimize losses.

In addition to paying additional transaction fees to the broker of your choice, you may accidentally reduce your earnings. However, when you trade within your risk tolerance range, there is a much lower chance that you will give up your own profits. This is because you can confidently back your market theories while watching them unfold.

These same ideas also apply in the foreign exchange market. When trading two currency pairs in the hope of making a profit, you need to be aware of the different factors that can affect currency values ​​and the amount of time it will take for the effects of these factors to play out. Giving up a currency pair too soon could cause you to miss out on significant gains.

There are even certain profitable trades that informed traders are unwilling to implement, simply because they are too afraid to trust the information that indicators and sources have revealed. Instead of mistrusting their own sources, they simply can’t identify the threshold of their risk tolerance. In addition, they may have experienced more recent losses than gains and may have unknowingly approached or exceeded their risk tolerance.

Many brokerage houses and trading programs have built-in market simulators. These are great for people who are just learning the ins and outs of a new market as they evoke emotions similar to real trades and show whether trading theories are spot on or recipes for guaranteed losses. If you are just starting out in binary options or forex, it is best to do a number of simulated trades before tapping into real money.

As well as helping you identify the best Forex strategy, a good simulator will also give you a better understanding of your ability or inability to tolerate large amounts of risk. Simulating trades with increases or decreases in trade values ​​will reveal a more accurate threshold that you can adhere to when entering the real market. Trading within this threshold is by far the best way to avoid rash decisions driven by emotions that cause more harm than good.