Stock Investing and Risk Management

All financial securities can be characterized by two important features "Risk and Return". The definition of Risk is to measure the probability of loss

Risk management enable an investor to preserve his capital to accumulated capital. The best investment strategy will fail without risk management plan in place. From the very beginning of our lives we are trained to be risk avoiders. In fact, the word risk to most of us is synonymous with fear and loss. This further reinforces feelings and social programming about risk. A constantly successful traders and investors understands, manage and accepts risk.

Type of Investment Risk

National / International  Risk	Risk Management Technique
Economic Risk	Business Cycle Analysis
Industry Risk
Tax Risk
Political Risk
Market Risk	Risk Management Technique
Market Risk	Business Cycle & Asset Allocation
Liquidity Risk
Interest Rate Risk
Inflation Risk
Exchange Rate Risk
Reinvestment Risk
Company Risk	Risk Management Technique
Financial Risk	Fundamental Analysis
Management Risk	Fundamental Analysis
Volatility Risk	Beta Coefficients / Diversification
Personal Risk	Risk Management Technique
Timing Risk	Market Cycle, Technical Analysis
Tenure Risk	Set maximum acceptable loss and do exceed it.
	Set stop loss after trade is comfirmed. Adjust stop level to protect profit.

Risk, is measure the probability of loss in an investment. There are many ways to manage risk when come to stock market investing, the following list out the popular risk management apply by majority of the investors and traders.

1. Diversify - Don put all your eggs in one basket. Minimum 10 to 30 stocks in your portfolio.

2. Limit your losses - Use stop loses mechanism to protect your capital and available funds.

3. Liquidity trap - Buy only liquid investments in liquid market.

4. Psychology trap - Trade with your "risk" capital only and investing in businesses that you understand.

% Loss of capital	10       20      30        35        40        45      50
% Gain required to breakeven	11.1    25      42.9     53.8     66.7     81.8   100

Reason behind cutting Loss. Cutting loss preserving your capital, enabling you to enter the next high-profitability trade. The table above shows the percentage gain necessary to recover from a predetermined percentage loss. The potential for loss is accelerated when leverage is used (margin, options, futures). For example, 10% loss of capital only require 11.1% gain to recover from the previous loss but 50% loss in capital require 100% gain in the next trading with the remaining capital available.

How many stocks you need to hold in your portfolio to achieve diversification and reduce the risk? is it more stocks in your portfolio will get you more diversification? The chart showing that after 30 stocks in your portfolio, the diversification is almost achieved, provided all of the stock have the same risk and no correlation between all of them. The portfolio risk will be reduce by mixing across several assets rather than just one or two.