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With the recent increase in margins for FX trading amid the current volatile market landscape, traders are now searching for possible options to help them mitigate their risks better, while still allowing them to benefit from market movements.
Knock-outs are a great solution for traders in search of a limited-risk solution. When trading knock-outs, you are required to choose your knock-out level, which is also how much you are willing to risk. This helps to instill discipline by ensuring that you do not fall prey to panic selling or adjustments to your trade even when there are sudden, unexpected movements in the market.
In fact, it is in volatile markets that Knock-outs can be potentially useful. Here are some scenarios where traders can benefit from trading Knock-outs.
Market flash crashes
Market flash crashes can be devastating for traders who have not exited the market in time. During a market flash, market slippage grows, which leads to greater losses despite the placement of normal stops. Knock-outs enable you to know exactly how much you are risking before placing a trade since it will be “knocked-out” at the specific level that you placed at the start of the trade.
Simply put, you buy Knock-outs according to whether you predict a rise or fall in the market. If you predict a rise in the market, you buy a Bull Knock-out. If you predict a fall in the market, you buy a Bear Knock-out.
Knock-outs enable you to specify a Knock-out level. When your Knock-out level is reached, your trade will automatically be closed. So, you will never be risking more than your specified Knock-out level. And because your maxim loss cannot exceed your margin, you never have to worry about losing more cash than you have on hand.
Taking advantage of short-term movements
Knock-out trades can be modified to effectively enable you to take advantage of short-term movements.
One way to do so is by adjusting your leverage to take advantage of short-term volatility, while still hedging risk with a longer-term position. You can adjust leverage on all trades, and even execute separate trades with different leverage ratios on the exact same asset.
For instance, you could execute two trades on an index, one with lower leverage to be held in the medium- or long-term, and another with higher leverage in order to take advantage of short-term volatility.
Taking advantage of new market trends without having to risk everything if the trend reverses
New trends can involve significant movement that could potentially work for or against you. Knock-outs enable you to manage your losses while at the same time giving you exposure in the event that the market does work in your favour.
For instance, if you predict an upswing in the market, you would buy a bull knock-out. In the event that the market experiences a downswing instead, your trade will close at your desired Knock-out level, preventing you from suffering any further losses.
On the other hand, if you think the market will fall, a bear knock-out will enable you to limit your losses in the event of a rise in the market.
Understanding how Knock-outs can be adapted to your trading goals can help you better optimise your trades, while still protecting yourself from any unwanted swings in the market. To find out more about trading Knock-outs, download IG’s free e-book, written in partnership with Bloomberg or with IG Academy’s free training courses.
Do you have any questions about trading Knock-outs? Leave them in the comments!
This article was written in partnership with IG, the world’s No.1 CFD provider (by revenue excluding FX, published half yearly financial statements, June 2019).
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