Basic Risk Management
By: Alonso Vargas
Tags: Trading, Risk Management, Bitcoin, Investing, Cryptocurrency

A bear market is the perfect time to think about risk management. It presents an opportunity to understand how to respond to the market and create a disciplined approach to trading. Below, I outline some of the basic steps I use to help mitigate risk along with a risk manager spreadsheet. By sticking to these techniques, you can increase your chances of success.

As always, remember that this is not financial advice and you should always do your own research.

Scan for the Right Trade

The first thing you will need to do is find the right coin to trade. Stock traders use costly scanners that look at many different indicators. You can easily do it with Lunar Satoshi. The bot picks coins that are ripe for trading. There are calls on the 15 minute charts for quicker trades and 30 minute charts for longer time frames. Instead of spending hours sifting through all of the coins (or throwing a dart and seeing where it lands), you can narrow down your search with the Lunar Satoshi bot. Just review the active calls then do a deeper analysis to determine which have the greatest potential.

Plan the trade

Once you have found a coin, determine a strategy for the trade. This typically means using indicators and tools like EMA, Elliot Wave and/or chart pattens. It is important that you find a strategy that is customized for your risk tolerance and personality. Once you find a strategy, make sure you stick with it. Changing your strategies often results in disastrous results, unless you get lucky. The name of the game is consistency.

I have found that refining trading strategies requires multiple iterations of using tools that you understand well. You use those tools over and over again until you can make winning calls. Hopefully, you don’t lose too much money in the process. Though not as exciting, paper trading is a great place to refine your strategies and skills.

Stop-Loss and Profits

After you have identified the coin you want to trade and the strategy for your trade, you will need to determine stop-loss and take-profit zones. There are many approaches to finding entry points then setting a stop-loss and profit zones. The one I use the most is support and resistance regions. These are areas of high volatility and price action. There are more advanced methods like pin strategies, but it’s easiest to start with something like support and resistance regions.

In the image below, four areas of support and resistance have been charted. After an uptrend is confirmed, an entry point is defined at a previous level of support and resistance. The previous swing-low is used as the stop-loss and two profit zones are defined based on previous levels.

Support and resistance levels for entry, stop-loss, and take-profit zones

Reward to Risk Ratio

The most fundamental (and arguably most important) concept to keep in mind when trading is your reward to risk ratio. This is one of the foundations for successful trading. The reward to risk ratio measures the ratio of your entry to your take-profit and stop-loss . A good reward to risk ratio is often considered to be 2:1 or higher. This means you are are risking $1 to make $2. Below is the calculation for the reward to risk ratio, or RRR.

Reward to Risk Ratio (RRR)= (Take Profit - Entry ) / (Entry - Stop loss)

You can also use the the Long Position tool on Trading View or your favorite charting tool to calculate the ratio. This is especially useful when you are charting your support and resistance levels.

When using this formula, consider your winrate as well. Place your resistance (take-profit target) and support (stop-loss target) at locations that will reasonably hit. You will want to target at least 50% winrate to ensure that your reward to risk ratio helps you maintain profitability.

Risk Per Trade

Your trade size is typically determined by how much you can risk in any given trade. Most experts recommend risking up to 2% of your portfolio in any given trade. If you trade at a 2:1 ratio, then your target take profit would be a 4% gain on your portfolio (twice the risk). Of course, based on your trading strategy and risk tolerance, you can make much larger gains. Crypto is notorious for huge gains and losses and many people have capitalized on this to make very profitable trades. Just keep in mind that this means that you can experience equally huge corrections.

Trailing Stop Loss

One additional strategy you can use to help protect your profits when the price is running up is to use a trailing stop-loss. This means that you update your stop-loss as the price moves. For example, let’s say you have a coin that you bought at 100 satoshi with a target of 120 satoshi and stop-loss of 90 satoshi. As the price increases from 100 to 105, you can update your stop-loss to 95 satoshi. As the price increases to 115, you can update your stop-loss to 105. You continually update the stop-loss to make sure you protect the profits as price goes up.

Be careful not to set your stop-loss too tight as price fluctuates and stop you out at an undesirable time. In more competitive markets, whales may move the market to stop out orders. Keep an eye on the level 2 price book to help mitigate this.

You can use a trailing stop loss to ride beyond your take-profit target by continuing to update your stop-loss as the price rises. Just keep in mind that this can be a time consuming activity that requires you to keep a close watch on prices and make updates to your stop-loss.

Using the Spreadsheet

The risk management spreadsheet is designed to be a guide for your trade and help you manage your reward to risk ratio. It can be used for long trades or short trades. The latter can also be uased as a strategy to increase your altcoin position by trading into BTC as it downtrends and buying back at a lower price. The spreadsheet has a separate tab for long and short trades.

When using the spreadsheet, you will want to focus on cells that have blue text and the rest will automatically update.

The first section is the Entry Info that has details about entering into the trade. This includes the coin pair, amount you purchased, and average buy price.

The next section to modify is the Trade Info section. This will cover the fees on your trade, stop-loss, first resistance target and second resistance target. The fees will be used to calculate your break-even target. The stop-loss will be used to calculate your reward to risk ratio. Target 1 and Target 2 are two resistance levels that are charted.

The last thing you will want to do is scroll down and grab the coin link from CoinMarketCap. This will be used to pull real-time information so you can get a glance at the performance in real time. After you enter the link, the rest of the information will update automatically.

Once you have entered this information, your dashboard will populate with your reward to risk ratio for both targets. You will also see details about your potential gains and losses. The middle guages will help you determine the actual reward to risk ratios. You always want to target a 2.0 or greater ratio. The bottom middle section is a real-time performance monitor. Remember that these prices are coming from CoinMarketCap so they are approximate. Check your exchange for live prices.

Last item on the list is a price averaging tool. You can use this as you ladder in to your position. Fill in the coin amount and price for each of your purchases. This tool will average out your price and total amount so you can enter it into the Entry Info section.

Spreadsheet Link

To start using it, make a copy to your drive and modify it with your trade details.