There is no denying that when you choose to invest your money in the Forex market you are putting it at risk of loss.  When determining risk, you are measuring the probability that whatever it is you are doing is going to fail.

You know what risk is, but how does that play out in your trading practices?  Knowing the risk is not enough to earn money in the Forex market.  You have to have a clear understanding of what the risk is to you personally.  You have to know what your tolerance is for failure.

Age and Risk Tolerance

The easiest way to understand exactly what risk tolerance means is to look at it in terms of age.  Let’s say for example that everyone must cease trading in the Forex market on their 40th birthday.  Obviously by the time you reach that milestone you are going to want to have built up a substantial amount of wealth.

Now take two traders with the same amount of available capital, yet one is 25 and the other is 35.  The risk tolerance is much greater for the younger trader because if they lose, they have more time to recoup those losses, whereas the older trader only has five years before he is forced to stop building on his wealth.  He has a low tolerance for risk and must be more cautious in his overall trading methods.

Of course, in the real life scenario the gap is much wider and less finite.  Traders can continue building on their wealth for as long as they want to, but most do have a retirement age set in the back of their mind.  As they move closer towards that number, they should be monitoring their risk to reward ratios very closely and not taking any unnecessary chances.  As opposed to the younger trader who has decades in front of him to build on his wealth and can afford to make the riskier trade choices.

Investment Goals

In the same way that your age could be a determining factor for your risk tolerance, goals you set in place also play a large role.  For example, you may have a child who is approaching college age.  Are the funds in your Forex account supposed to help cover that cost?  If so, then you need to start re-evaluating your risk tolerance.  The closer you get to a goal that is dependent on your Forex assets, the lower your risk tolerance is.

Money and Risk Tolerance

How much money you have available to trade is also a determining factor for your risk tolerance.  The amount of capital you can afford to lose at one time should also be a consideration before entering a trade.  Of course this means that an investor with a higher net worth has a higher risk tolerance than one with a small Forex account.

This is where you want to consider those percentages we are always mentioning when talking about the risk to reward ratio and how much money you should be investing.  The smaller the percentage of your net worth the trade entails, the higher your risk tolerance can be.  As your capital grows, so does your tolerance to loss and you are able to take some chances with your money.

Knowing your risk tolerance in terms of your available capital is important, but accepting that and trading conservatively is imperative.  This is where I see new traders make their biggest mistakes.  Despite not having capital they can afford to lose, they enter a trade that they believe is a sure thing with everything they have.  Of course when it goes sour, they are left with nothing and have to start from scratch.

Experience Counts

A green Forex trader has to take even more care with determining their risk tolerance then a more seasoned one.  They have not yet established a steady plan and are most likely still trying out different methods to find what works best for them.  For a new trader the best way to manage your risk tolerance is by never investing all your available capital in just one trade.  Not only does it increase your odds of a successful trade if you have a couple going at the same time, it helps you to learn faster which strategies are most beneficial to your personal trading style.

With Forex, a trader needs to remember that conserving capital is just as important as gaining it. This means that you should always leave something in your account so that in the event of the worst case scenario you have some capital left with to trade another day.  Take that into consideration and factor money to trade within with your risk tolerance.

It is inevitable that as a new trader you are going to lose money in the beginning.  It took me months before I actually saw some real gain in my account.  What helped to keep me going was being entirely aware of how much I could afford to lose, and never risking more than that, no matter how enticing the trade seemed.

The Big Picture

Your age and goals along with the amount of experience and money you have, combined will help you to determine your risk tolerance.  This is not a case where you can choose the category that suits you best.  Instead you have to examine each one carefully as it pertains to you and apply to your trading plans.

One last thing to keep in mind is that your risk tolerance is not set in stone.  It will change as grow experience and wealth.  It will also look different as you approach important goals and milestones.  Evaluate your personal risk tolerance frequently and make any necessary adjustments in your trading methods and you will find that achieving success comes naturally.

About the Author

Casey Stubbs is the founder of WinnersEdgeTrading.com which is one of the most widely read forex sites on the web. Winners Edge Trading has trained thousands of people to trade the Forex markets.