eToro Copy Trading - How to make profits with Smart Risk Management?

How to carry out risk management as a trader or investor?

To understand how efficient risk management is carried out in the financial field, we must first bear in mind that all individuals carry out this process in their daily lives. Most of the activities that we carry out, no matter how simple they may seem, can carry certain risks, such as choosing a gift for someone or enrolling in a course at a new school. However, we agree to take some risks because we have second options or because we believe that the chances of failure are minimal.

In the financial field, risk management, also known as “risk management” by its name in English, is similar. When a user decides to perform certain actions, he knows that he can win or lose, so he must be prepared for any result. However, the field of finance has more precise tools to measure the consequences of actions, since much of it can be calculated mathematically.

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What does risk management mean in finance?

Thus, risk management can be defined as the process by which individuals determine the possible setbacks of investment and identify a series of options to solve or mitigate the consequences of the latter. Therefore, for proper risk management, it is essential that a series of phases be followed. To begin with, an exhaustive analysis must be done, since without it it will be difficult to detect most of the setbacks that may arise. Once the dangers of the economist are pointed out, it is time to seek solutions.

Ultimately, the main goal of this process is to provide security to the investor, even when the operation does not go as desired. Therefore, it must be borne in mind that risk management does not eliminate danger as such, but rather studies it in depth in order to act accordingly. Investors sometimes intentionally engage in complicated trades, believing that the risks involved are worth it if successful. For that reason, these types of users do not need to know probable scenarios to avoid them, but rather to face them.

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How to apply risk management in the Stock Market?

To apply risk management in trading, it is essential to know a series of concepts. First, the markets can be predictable to a certain extent, but it is impossible to control all the variables, so we will never have absolute certainty of any operation. However, through analysis and different strategies, the investor has the opportunity to take risks with some security. On the other hand, you must know how to classify risks, since in this way it will be easier to find a way to counteract them. Among the most common types of risks, we find the interest rate, liquidity, market, or credit.

Likewise, it is relevant to consider the type of market in which it is invested, since anyone who starts investing through eToro will realize that there are different strategies depending on the selected asset. Once the type of risk of each operation has been identified, it is time to consider the appropriate approaches. One of the most effective is to analyze the behavior of an asset in the past since in this way you can predict how volatile it may become. Another classic option is to diversify the portfolio, since, in this way, you do not bet everything on a single investment. For the latter, safer investments are generally chosen to reward riskier ones.

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Risk management as an investor of eToro

At first, investing and trading may seem the same, but when we refer to an “investor” and a ” trader ” we find significant differences. Typically, an investor trades in the long term, while a trader does so in the medium and short term. There are also differences between their choices when investing since although they coincide in stocks, traditional investors bet on assets such as bonds, and traders on markets such as cryptocurrencies. . When it comes to managing the risk of financial investment, they also act differently. Next, we will see some of the keys to managing risk when investing in the long term:

Choosing a long-term strategy

There are different strategies to invest in the long term, such as that of the expert Warren Buffett, one of the best-known investors in the world. Warren primarily takes into account that a company is sustainable over time and has a competitive advantage. For his part, the economist John Templeton followed principles such as avoiding fashion companies and buying during pessimistic trends to sell on optimistic ones.

Have consistency in investments

Another essential point to manage risk is to be consistent with the investments that are made. For example, if every two months you invest in a new sustainable company, then a more or less assured amount of profits will be maintained. The figure will vary according to the period since if for example, the investor receives a series of high dividends, that month will probably have more benefits than usual. Those who are interested in dividends can learn more about them and create their strategy on eToro through various tips.

Diversify

This concept is linked to the previous one because even if you have consistency in investments, it will be useless if you always invest in the same type of assets and they have a bad time. Therefore, diversifying the portfolio by investing in different companies will help us increase the chances of making a profit. The more investments the user makes, the more likely it is to be successful, even when the market is in a pessimistic time.

Hedging

Another way to manage an investor’s risk is to hedge, which means making an investment that serves to reduce the danger of another. An example of this is direct coverage, which consists of having two opposite investments of a certain asset.

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Risk management as a financial trader

As mentioned above, traders act differently from conventional investors, as they are more willing to make decisions that carry considerable risks. For this reason, some may believe that they do not need risk management, but in fact, they do. Since traders are specialized in medium and short-term trading, they cannot follow all the techniques of traditional investors, so their strategies vary in some respects. Now we will see some of his best-known tactics:

Stop Loss and Take Profit

Both, which can be used on the eToro platform, are concepts that help considerably to avoid risks. The first, which in Spanish can be translated as “stop losses”, is an order that closes an operation automatically if it reaches a certain point of loss. Thus, you avoid losing more than you can assume. On the other hand, Take Profit means “take profit”, and it is a tool used to close a trade when it has a specific amount of profit.

Diversify and hedge

As in the previous case, traders can choose assets from various sectors, always with the aim of increasing the chances of obtaining profits and minimizing losses. Also, direct hedging can be carried out in sectors such as the foreign exchange market. In this case, the trader would have the option to carry out operations with negatively correlated currencies, such as the euro/dollar and the dollar / Swiss franc, since when one goes up, the other goes down in the same way.

Follow self-imposed rules

A practical way to avoid losses is to have rules that conform to our portfolios. For this, you can use the risk-benefit ratio in trading, which consists of dividing the amount that you are willing to lose by the amount of profit that you plan to obtain. Although it does not guarantee anything 100%, it is a help to limit ourselves in the event that the outlook is not favorable. In the same way, there is also the 1% rule, which says that the trader will never deposit more than 1% of his capital in an investment.

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What is the Black Swan theory in economics?

The theory of the Black Swan in the financial sector explains that there are a series of unpredictable and improbable phenomena, but that they still happen and have considerable consequences on the economy. This concept was devised by the economist Nassim Nicholas Taleb and was inspired by the discovery of black swans in the 17th century. Until they were found, numerous individuals assumed that they were all white, and therefore did not take into account the possibility of their existence. The same happens with some events that affect finances, which although difficult to predict, do happen.

However, this phenomenon can become a great opportunity and a good time to invest in the stock market. For example, a user may decide to invest in Amazon because, as stated on eToro, it is the leader in e-commerce, but if another well-known brand like Alibaba decides to create an electronics sub-brand and succeeds, Amazon could lose value. Still, the investor could get cheaper Amazon shares, and if he assumes that the company will recover later, he will have the opportunity to sell his assets at a higher price later. On the other hand, unexpected events can have a negative consequence, so it is advisable to be forewarned. To do this, you can follow four recommendations:

Diversify the portfolio

If we consider the arrival of a black swan in the financial world, it is especially risky to opt for a single investment, so diversifying the portfolio will help us to have different alternatives in the event that the main option fails.

Copy to other experts

A way to raise investment is access to the so-called CopyTrader eToro where copying operations trading is fast and intuitive. Using Copy Trading (which can be translated as “copy trading”), it doesn’t matter how novice an investor is, as you have the opportunity to take the lead from the most expert. The eToro platform also has a trading risk calculator, which determines how volatile an investor’s portfolio can be, and therefore facilitates the choice of the trader who is considering copying it.

Keep up to date with financial news

Daily we can find new market statistics and news related to the financial field, so keeping up with them will help prevent possible unexpected events. After that, we can take advantage of new opportunities that arise or seek solutions to hypothetical future problems.

Reassess

When long-term operations are carried out, it is usual that the user does not think about them for a while, but given that the markets change constantly, it is advisable to review the portfolio every two or three months. In this way, operations that are not giving the planned benefits can be modified.

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Manage your risk

In conclusion, if we consider how to invest in the stock market without risk, it can be said that there are many methods to manage possible setbacks, but there is always a minimum risk in all operations. This is explained through the aforementioned Black Swan theory, since even the investment that seems safest can be risky if something unexpected and difficult to predict happens. However, if the different tools that each user has, be it a traditional investor or a trader, are known, it will be easier to identify possible risks, evaluate them and create successful strategies both in the long, medium, and short term.

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How to define Stop Loss and Take Profit when trading

A trading strategy that does not give importance to exits and entries in operations presents great limitations and risks since volatility or the psychology of the trader can destroy it. What to invest our money in is important, of course. But knowing when to remove it from trade is also essential, whether an open position is developing in our favor or if it is generating losses. It is of little use to us to be right in the direction of an operation if later we cannot make it end up materializing in profits.

In order to do this, we have the help of two types of orders that every trader should know: Take Profit (TP) and Stop Loss (SL). eToro offers them to all its investors so that they have absolute control over their open positions. Read on and you will find answers to questions like what is Stop Loss or what is Take Profit. You will also discover all the secrets of these very important orders for any operating strategy that seeks to obtain constant results without major surprises, with adequate risk management that sets your maximum profits and losses.

What is Stop Loss and Take Profit

What is a Take Profit?

The Take Profit or taking profit is a trading order that allows us to close an open operation when it reaches a preset level that we have determined and thus fix our profits at a certain amount. Once the market has reached it, the settlement of the operation starts automatically and the profits obtained are transferred to the balance of the broker’s account. Each trader determines the level at which this closing order will be executed depending on their own criteria: reaching a certain resistance level, achievement of a certain profit percentage, the date on which a major announcement will occur that may affect price direction, etc.

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What is a Stop Loss?

The Stop Loss or limit of losses is a trading order that causes the automatic closing of an open position if the market touches a predetermined level by the trader. It allows limiting losses when an operation turns against us. The greater proximity or remoteness of the Stop Loss will be based on the different types of SL and our risk appetite.

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Different types of Stop Loss

There are mainly three types of Stop Loss: Stop percent, stop breakeven and stop tracking. No two operations are alike and, luckily, Stop Loss orders give us great dynamism that we can apply to our trading strategy. As we are going to see now, which one to use will depend entirely on our investment style.

1. Percentage stop

It is the most basic Stop Loss and is very popular with less experienced traders due to its ease of implementation. Not because it is simple it is less effective than the others and in this aspect lies its great appeal. It consists of setting the Stop Loss of an operation in such a way that we only risk a certain percentage of our available capital (for example, 2% of the total). In this way, we will greatly increase our chances of financial survival in the event of significant losing streaks.

2. Break-even or break-even point

It is a conservative Stop Loss, popular especially in markets that work by movements of pips (units of measurement of price fluctuation that are used in markets such as Forex). It sets the point where we no longer have a profit or loss on a trade no matter what. Activate a closing order located at a price level that will prevent us from suffering any type of loss in an open trade.

3. Tracking stop or trailling-stop

Also known as Dynamic Stop Loss, it stands out for its versatility. Instead of acting according to fixed criteria, it is updated in real-time based on the development of the price of an asset. As we accumulate floating profits in a trade that is developing in our favor, the Stop Loss trigger price level will rise. This type of SL allows us to maintain an open position that is generating profits while limiting the risk of maximum losses. Remember you can manually update your s stops tracking or automatically configure eToro increments of certain pips.

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Why should you implement Stop Loss and Take Profit in your trading strategy?

In the same way that it would not occur to you to drive without a seatbelt, trading in the financial markets without safety mechanisms such as SPs or TPs can be a reckless decision, especially for novice investors. Using these trading orders offers security and systematization, as well as protection against sharp market turns. Not using them can only be recommended for very veteran traders who feel comfortable trading without a network.

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FAQs about SL and TP

Before you finish and begin to apply your knowledge of these orders on eToro, we invite you to review the answers to some of the most asked questions by traders about Stop Loss and Take Profit.

1. Why should you use a Stop Loss?

To prevent your losses from growing too high when a trade doesn’t go as expected and to systematize your trading strategy. Using an SL order lowers the risk of your account running out of funds and allows you to preserve your capital. It also makes it possible to operate in the market with greater coldness.

2. Why should you use a Take Profit?

Many are the traders who after having maintained floating profits for long periods of time see how they are left without them by not closing the position on time. Remember that the profits you see on your screen are not real until the trade is complete. Take Profit orders to allow us to combat excesses of greed and facilitate the benefit of sustained growth of the capital of our trading account when the market reaches the desired TP price.

3. What is volatility and how does it affect Stop Loss and Take Profit?

By volatility we mean the measurement of the intensity and timing of fluctuations in the price of a financial asset over a specific time horizon (days, months, weeks, years). It is used to quantify the risk of a specific asset. For example, the volatility of the cryptocurrency market is not the same as that of large securities or blue-chip companies: it will determine the distances between the prices and our SL and TP levels.

4. What does risk management have to do with Stop Loss and Take Profit?

The use of Stop Loss and Take Profit orders is one of the most important aspects of risk management in trading. They allow us to limit the impact of losing trading operations on our capitals and maximize our profits. They also facilitate the possibility of systematizing our strategy for entering and exiting open positions. In short: SLs and TPs allow you to consolidate an optimal risk management strategy.

5. Is it always possible to execute a Stop Loss and a Take Profit?

While Stop Loss orders are one of the best ways to control potential risks and losses, they do not provide 100% security due to slippage. That is, when the price of a market suddenly increases its volatility, gaps or market gaps can occur that simply make it impossible to execute a Stop Loss at a certain level. In any case, an attempt will be made to close the transaction at the best favorable price for the investor. In the case of Take Profit orders, the slippage affects less. It can occur when the price reaches the TP level, but it is turned just before the order is executed, not being able to then close the Take Profit at the exact level. But this usually happens less frequently than in the case of a Stop Loss order.

6. Do these trade orders have any significant disadvantages?

They mainly have one, although not everyone agrees on it. Critics of the use of Stop Loss and Take Profit to argue that these orders limit profit potential. It is possible that on more than one occasion the price can activate, for example, our SL only to turn around immediately afterward. It is also possible that we sometimes place Take Profit orders at excessively low levels. But one thing is clear: in return, we limit the risk of liquidation of our account, an aspect on which our very survival as investors depends.

In short, using Stop Loss and Take Profit orders is a great help to preserve our money when operating in the markets. Its use allows us to control our psychology and keep away emotions as negative for trading as fear or uncontrolled greed, especially in times of great volatility. Stop Loss and Take Profit also allow us to improve the management of bad streaks. Thanks to these tools, we will be able to experience successful operations without having to get each one right, since we will be limiting our losses and maximizing our profits. Eliminating losses completely is practically impossible, so being able to mitigate their effect is key to good long-term performance. SLs and TPs can be the best allies to achieve this.

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