Home > Education > Why risk management is critical?

Why risk management is critical?

Tuesday, July 31, 2007 Leave a comment Go to comments

Yesterday, I was exchanging emails with a potential client and he asked me-“Why do you stress so much on risk management? Just give me some good stock ideas and I think I will do well”

Risk management is a subject which is not given coverage in the press as it is not very “sexy” to talk about such a boring subject! Plus it might even discourage people from trading.So I will also not bore you but share a very recent incident which might tell you how it is very “critical” for success.

There are couple of people who take my “Stock Ideas” newsletter .They just need some good investing and trading ideas for their portfolio. Now many of these people are not aware of the risks they are taking and obviously I am also not aware of their actual portfolio.

On Thursday (futures expiry day), one such client contacted me because he was “stuck” in a stock. He had gone long in a stock future and now the stock had turned its back on him .Ideally, he should have gotten out of the stock on the previous day itself but he had held on to the stock on the “hope” that it will recover! Now he was feeling “confused” and “fearful” as he did not know what to do. This is not first time situation, infact this happens all the time!

So I gave a simple solution-GET OUT before your loss becomes too large to handle! Interestingly, what he couldn’t do himself, he did the same on my advice. Now I casually asked him about the other positions he is holding. To my surprise-he told me that on a trading capital of 5 lakhs he is trading 8-9 futures.Basically he was utilizing full margin!Now why was he trading full margin-because he was winning.He had grown his 4 lakh capital to 5 lakh in a month,so he was teeming with confidence (till that previous loss).That had made him aggressive in his trading.
I asked him a simple question-How will your account look like if tomorrow all the stocks you hold behave in the same manner(that is go down 6-8%) as the stock you have just cut ?

He immediately understood that he was taking “more risk” than he could handle.As a result he immediately cut all his positions and just kept two of them.

Now each one of us knows what happened last Friday. Had that person, carried all those positions, his account would have seen 60-80% loss in a single day! So 5 lakhs would have come down to 1.5-2 lakhs in a matter of hours!Imagine the pychologiocal effect such losses have on people.

I hope you understand “risk” now. I was fortunate to save this person a few bucks but many would not have been so lucky on Friday!

Infact, when people tell me that my products are “pricey”, I feel that probably people don’t fully understand their value 🙂

Sometimes they might not make money for you but save you a lot of money!Sometimes it pays a lot to be part of team than trying to figure it out all alone.

Categories: Education
  1. Umesh
    Wednesday, August 1, 2007 at 1:25 am

    Great analysis. Thx for the regular updates and analysis.
    I have started reading ur blog daily 🙂

  2. shyam
    Tuesday, July 31, 2007 at 8:54 am

    Sage !
    I am a great-great fan of yours. Kindly include medium term calls seperately on your blog with stoploss and targets.

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