Is it that important?
I mean, is it really possible that everyone is pointing to it and talking about it? Is it that important?!
Okay, focus with me a little.
Risk management is not just a term thrown around by analysts to make it seem like they understand; it is actually the foundation of the game in the world of investment and trade, and even in your daily life.
Imagine you enter the stock market and you see an attractive stock and say, 'Let me invest my entire portfolio in it,' and then the stock drops by 30%. Here comes the question:
If you have a clear plan for risk management, would you put all your money in one stock?
Definitely not!!!
Risk management simply means how to protect yourself from the worst-case scenarios, not how to achieve the highest profits.
The successful investor knows that high returns come with higher risks, but the difference between the professional and the beginner is that the professional has a strategy that allows him to survive and continue if things go wrong.
Let me give you some important terms:
First, there is something called Position Sizing, or 'حجم المركز':
How much you put from your portfolio into a single trade.
It's not true at all to put 100% or even 50% in one stock; it’s better to determine a safe percentage like 5-10% of your capital.
And there is another important term called Stop Loss; I bet you know it and have heard about it a lot; it’s like an alarm device that saves you before the risk escalates.
You set a certain price, and if the stock drops to it, you sell automatically to minimize your losses.
And there is also something important called Diversification, or 'التنويع', and this is the first line of defense.
If you distribute your money among stocks, funds, sectors, and even different currencies, the risk will not come from one direction.
Besides that, you have the Risk/Reward Ratio, which is the ratio of risk to return.
For example, if you have a potential profit of 20% against a risk of 5%, this is considered an excellent trade because you are entering at a rate of 1:4, meaning you could earn four times what you risk.
Even at the level of large portfolios, there is something called Value at Risk (VaR), which is a statistical method that calculates 'the worst possible loss at a certain percentage within a specified time period.'
For example: 95% VaR over a week means there is a 5% chance you will lose more than the number that came from the calculation.
The whole idea is that risk management does not protect you from losses, but allows you to live longer in the market.
Like someone entering a boxing match: the goal is not to knock out your opponent in the first round, but to last ten rounds without getting your head knocked off in the first round.
Those who do not care about risks may win one or two trades and become arrogant, but one wrong trade is enough to wipe out all their previous profits.
As for someone who understands risk management, even if he loses sometimes, he will continue to stand because he is diversified, knows his losses, and has prepared his plan before entering.
What does it mean,
Yes, risk management is very important, and it might be more important than choosing the stock itself.
Because even if you choose the worst stock in the world, if your risks are calculated, your losses will be limited.
But if you choose the best stock without calculating it correctly, your story might end up with an early exit from the market.