Investing in anything other than money market or certificate of deposits will carry a measure of risk. Oftentimes we think of risk in a negative fashion. Risk, however, can be a favorable thing. It is due to the element of risk that our investments can earn a higher return than what can be obtained in money market accounts. If we review our investment strategy and minimize our risk while maximizing our return, we win. Since winning is what we want to do, then we should study and learn all we can about accomplishing that task.

Risk can be thought of as a deviation from the expected norm. If after analyzing an investment, we expect it to generate a 10% return. Risk would be the quantified number that would express the probability that we would not get the 10% return. There is a number that can be obtained that helps us to determine that probability. It is a number used in statistics and is called the standard deviation. It is possible to think of standard deviation in terms of the success we could have in getting the 10% return. The standard deviation can be thought of in terms of a bell curve. One standard deviation means that there is up to a 67% chance that the return will be within one standard deviation of the norm.

Lets say that the expected return is 10% and the standard deviation is 5%. That means there is a 67% chance the actual return will be between 5% and 15%. To make the odds more meaningful, we can add another standard deviation. Two standard deviations gives a probability of a 95% chance of occurrence. So in the example above, there is a 95% chance the return will be between 0 and 20%. So, it is a good investment rule to evaluate the expected return and what the standard deviation is for that stock.

Another method to reduce risk is to start small. Many of us do not start out with a large portfolio to work with. You should never invest more than 3% of your portfolio in one stock. If you have a small trading account, then trade small.

Longevity is the key to being a consistently successful trader. If you are risking 25% of your portfolio on one trade, you are setting yourself up for trouble. Invest small and increase the size of your portfolio through winning. As you win more and more, you will be able to increase your initial investments. After all, 10% gain of $1000 is still 10%. It does not need to be a large investment to obtain a gain.

Setting your financial goals and strategies is another method to manage your financial risk. Knowing what you want to accomplish will help you to avoid getting in over your head. Too many times, we find that stock that is going to hit the home run. It is too pricey for our strategy and does not fit our portfolio goals, but by golly, our friend says it is a winner. Run do not walk from that thinking. Have a goal, stick with it and you will watch your investment grow. Remember, the tortoise crossed the finish line ahead of the rabbit.

All of the content published on this website is to be used for informational purposes only and without warranty of any kind. The materials and information in this website are not, and should not be construed as an offer to buy or sell any of the securities named in these materials. Trading of securities may not be suitable for all users of this information

Tags: investment, standard deviation, statistics, trader