Risk Management in Intraday Trading

Intraday trading comes with a high degree of risk compared to long-term investments or even short-term trades. As opposed to long-term investments, any new market development could cause wild price swings in addition to the inherent volatility of the stock. To be profitable as a day trader in the brutal intraday market, one has to be adept at risk management.

What is Intraday Trading?

Intraday trading means buying and selling shares within the same trading day. In other words, all trades are completed before the market closes.

Brokers may provide margin or leverage, which allows traders to buy more shares with less of their own money. For example, with 4:1 leverage, a trader contributes 20% of the total amount while the broker provides the remaining 80%.

All intraday positions must be closed before the specified market closing time. If a trader does not close the position on time, the broker may either convert it into a delivery trade, subject to sufficient funds, or automatically sell the position at the prevailing market price to recover the amount provided.

Risk Management in Intraday Trading

Intraday trading involves high risks, so managing those risks is very important. While traders cannot control whether they make a profit, they can take steps to limit their losses. Having a clear intraday trading strategy helps stop emotional decisions when the market moves unexpectedly. Before starting a trade, a trader should decide which shares to buy, how much to invest, and when to exit. Good risk management and disciplined decision-making are essential for successful intraday trading.

Risk Management Techniques

Determine Support and Resistance

Technical analysis should be used to determine which stocks to buy. Stocks fluctuate within price ranges, with the lower point of a price range called a support and the ceiling, a resistance. These price ranges and price points can be determined by observation of historical price movements, using tools such as moving averages (average of a number of previous closing day prices) or the fibonacci retracement tool or by connecting price peaks and troughs on a chart to determine resistance and support.

A share usually tends to rise near its support price and if it's near its resistance price, usually tends to drop in value. But this is not always the case as new market developments can affect the fortunes of stocks greatly. Stocks can go up beyond resistances or slip under multiple supports to settle into new price ranges. There can even be manipulation of share prices by deep pocketed traders, especially if the traded share is not so liquid.

Choose Exit Points

Once you've bought a share, you must know when to sell and get out. A stop loss is a price at which you sell your shares to avoid further loss. This should be fixed at a price below the support at which further loss is likely. Similarly, one should also choose a price to sell at a profit, in market lingo, take profit. This is usually set near a resistance.

These price points are not cast in stone. Based on an assessment of prevailing market conditions and temperament (bullish or bearish trend), one can set stop loss and book profit prices. For example, in case of a volatile stock, the targets should be set wide apart whereas a more stable stock might warrant tight targets. But these prices should be realistic with a reasonable probability of realisation. Setting a stop loss or book profit price way off from the stock price with little probability of realisation is futile.

Tips for risk management

• Trade in highly liquid stocks, usually large cap stocks, as this will facilitate easy buying and selling. Large cap stocks might also be less volatile due to the high volume of trade.
• Always do your homework before trading and set stop loss/take profit prices, calculate expected return, amount to trade etc.
• The price at which you've bought the shares shouldn't be set as the stop loss price. Some do this to eliminate the risk of incurring a loss, but often, large institutional traders manipulate stock prices to reach stop loss prices set at buying prices before value increases again.
• Don't use a fixed distance stop loss and take profit price for every stock. For example, a stop loss that you always set ten points away from the buying price. Don't set performance targets. It only makes you anxious and forces you to make mistakes.
• Modify exposure based on probability of profiting from a trade. A 1-2% exposure is usually advised. Don't use up leverage.

FAQs

What is intraday trading?

Intraday trading involves buying and selling shares within the same trading session, with all positions closed before the market closes.

Why is risk management important in intraday trading?

Risk management helps traders limit potential losses and avoid making emotional decisions during sudden market movements.

What are stop-loss and take-profit levels?

A stop-loss is a predetermined price at which a trader exits a position to limit losses, while a take-profit level is set to secure gains when the desired price is reached.

How can traders reduce risk while using leverage?

Traders should avoid excessive leverage and limit their trade exposure to a manageable portion of their available capital.

What are some important tips for successful intraday trading?

Traders should choose liquid stocks, research before trading, set realistic exit points, adapt to market conditions, avoid emotional decisions, and review past trades to learn from mistakes.