Updated: November 24, 2017
You may have noticed that the value of currencies fluctuates throughout the day. Investing in the forex market through platforms such as XTrade Europe can be potentially profitable based on the movement of these currencies.
As technologies have improved, the Forex market has become more accessible resulting in an unprecedented growth in trading.
Day trading is not for everyone. Yet anyone can learn how to day trade with the right education and coaching. You can learn more about trading forex by following information given by professionals.
However as everybody knows volatility is a measure for average price fluctuations. In other words, it is a measure for average daily percentage change in closing prices. Many times experts at XTrade Europe use it as a risk measure by telling you that high volatility implies high risk. In my opinion this is one of the biggest mistakes in investment theory.
Risk measurements
In year xy some FX quote changed by 50% – up or down – and therefore displayed very high volatility, which means that this pair is now considered very risky to invest in. How can extreme movements with chances for huge wins’ result in high risk?
It’s even more obvious with stocks. Why can a stock that rose by 50% be considered very risky? Risk theory treats upward and downward movements in exactly the same way. So if you just look at volatility data, you will not know if a currency pair or stock doubled its quotation or if it went down by 50%.
So if volatility is no good when measuring risk, what is volatility good for and how can risk be measured effectively? In my opinion risk is never a characteristic of a certain stock or forex quote, it is a characteristic of the model you use to predict price movements.
Model Movements
You possess a prediction model which enables you to forecast price movements with an accuracy of 100%. What are you going to invest your money in? Certainly in the most volatile currency pair or stock you can find since the high daily price movements will help you earn a fortune. How about an accuracy of 60%? Same answer!
If you can be sure that 6 out of 10 trades are “right”, no matter if selling or buying, you will end up with more money if you invest in very volatile than in less volatile currency pairs/stocks. As you can see the risk lies in the accuracy of your predictions.
How about an accuracy of around 50%? By investing at 50% accuracy level you might win, but you also might lose. If you invest in highly volatile stock, you’ll win/lose more than when investing in low volatility stock. This is basically all volatility is about – the LEVEL of gains/losses – not the FACT, if you win or lose.
The FACT is always caused by your prediction quality. Many traders such as XTrade Europe will allow you to keep an online record of your trades, making it easier to predict future movements based on historical prices.
However, who would invest with a 50% model? The first thing is to find a prediction model with high accuracy, then you pick high volatility currency pairs or stocks which you can forecast at that high accuracy level.
Spread the risk
Do as many traders on XTrade Europe and other professional platforms do: Spread risk, by investing your money in more than one stock/currency pair, probably 5 to 10. This will help keep off ugly surprises. As shown above, low volatility won’t help you reduce risk. It is going to help reduce losses if you suffer them. With good predictions this won’t happen.
This article has been contributed by the forex experts from XTrade Europe
