We have all seen it. It’s everywhere, and there’s no way of escaping it. Yes, I’m talking about the “trading may be risky” warning that you see pretty much all over the place.
As an active investor, you should be aware of just how much risk you are taking on with every decision you make. That can be hard enough to figure out when you’re trading in the traditional investment markets, but with Copy Trading thrown into the mix, assessing your risk with any kind of accuracy becomes almost impossible. So what’s a social investor to do?
Introducing: The Risk Score
So right off the bat, let me make it clear that this is a feature we are currently working on and plan to release to our community within the next few weeks.
The principle behind the Risk Score is very simple: we want you to be able to assess the exact risk you’re taking on with every trading decision, including Copy Trading. Not just get a feel of the risk, but actually be able to measure it with cold hard numbers.
The risk score will provide you with an overall portfolio risk score, as well as a breakdown of what this risk is made up of. This will be available for view on all our members’ profiles, which means it’s not only your own portfolio you’ll be able to better analyze, but also everyone else’s!
When it comes to Copy Trading, any new trader that you copy will impact your Risk score based on the way the trader you copy behaves: their choice of instruments, their choice of leverage, the percentage of their equity that is invested on a single instrument – all these and more are taken into account in the algorithm we have employed. When combining all the data together, we are able to calculate with a great degree of accuracy the risk a specific trader brings to your portfolio. So basically, you’ll be better able to asses any trader you want to copy, since you will be able to not only see his/her gain and performance, but also understand the risk he/she is taking.
How does it work?
Before we start, it’s important to emphasize that the risk score is based solely on a trader’s past performance, and as such it cannot and does not indicate future results.
Without going into hardcore math algorithms, the basic idea is that every instrument has an average daily movement, which indicates how volatile it is. Let’s say instrument X shifts on average around 2% a day (during a given day it will usually go up or down by around 2% from its price at the beginning of the day). Statistically, if we multiply this average change by 3, we create a range that will be correct 99% of the time. So, in our example, 99% of the time, instrument X will move up or down by a maximum of 6% within a single day.
This basic understanding is combined with the fact that different leverage settings change the risk percentage, and of course the fact that most of the traders in our community invest in more than one instrument. Some positions combine to reduce risk (if you buy EUR/USD and USD/JPY simultaneously, then together the two positions cover the possibility of the USD going down on the one hand, and up on the other, which means that your risk here is lower since they complement – hedge – each other). However, if your open trading positions don’t hedge each other, this means that the risk for these trades might be higher, as each trade can go the opposite way from what you were hoping.
Moreover, if you’re copying multiple traders, it’s important to take into account how their positions correlate – if they all invest the same way, your risk is higher, if on the other hand they hedge each other’s positions, your risk is lower.
As a first step, the risk score will not be updated in real time, and we will inform you in advance in regards to the frequency of the updates for this tool. Of course, our aim is to get it to a point where you will be able to see the changes to your risk score in real time, and that will happen as a part of an update we will introduce in the future.
How will I see it?
The algorithm takes all the parameters into consideration, and gives your portfolio a “risk score” that ranges from 1-10. Each score represents a percentage range, and is meant to help you better understand the risk that your investments may pose to your equity.
Whenever you add a new investment to your portfolio (be it an instrument or a copied trader), your risk will be recalculated and you will see your decision’s impact on your risk score. In the future, we will work to elaborate this feature so you can see the projected risk impact that a trader can potentially have on your portfolio. However, in the first version of this tool, you will only see the risk impact after you’ve copied the trader.
In addition, you will have a deep analysis of your own portfolio, enabling you to get a better understanding regarding your own investment strategy in real time. That kind of analysis will be available to all, meaning you’ll be able to see the deep analysis of all the traders in the community- but again, the ability to calculate the correlation between them in advance is still in early development stages, and will become available in later versions.
It’s important to note: this feature is meant to help you make wiser decisions, but it will not tell you what to do. We firmly believe that the responsibility for one’s actions lies in one’s choices, and we are by no means trying to tell you how you should invest.
So what’s next?
Over the next few weeks, until we launch this new feature, we will publish a weekly risk analysis and review of some of our most copied traders. This way, you’ll have a better understanding as to how the Risk Score works and what it means for you.
We trust that this important tool will help you optimize your portfolio to get the best possible results, according to your investment needs and expectations.
Of course, you are more than welcome to ask any question you might have regarding this on our Customer Service wall, or here in the comments. This feature is still under development, so final details (including launch date) are subject to change.
It’s really important for us to hear your comments on this one – this is a tool meant to help you become a better trader, and we want you to be a part of the process of creating it!
Who’s risk score would you like us to analyze next week? Let us know in the comments!
Note: Past performance is not an indication of future results. This post is not investment advice. CFD trading bears risk to your capital.