In the earlier article on investment styles, we talked about time. In this article, we will be looking at risk.

What is risk? Risk essentially just means uncertainty. When something is deemed high risk, it just means you are very uncertain of the outcome. For stocks like Singapore Post, they are deemed low risk, because you are pretty certain on the outcome. Do note this really does not say anything about the returns.

When a person invests, what he wants to do is to obtain as high a return while risking as little as possible. While it might sound obvious, most people actually do the opposite. They take big risks, and when the stock does turn a small profit, they take the profit and run.

And because of the fact that people have different risk profiles, it results in a few types of investment styles.

Scalping, as we mentioned in the first investing styles article, involves placing large amount of money for a small profit. At first glance, it may look risky, but it fact, since most professional scalpers have strict cut loss, the uncertainty factor is really not that large. Especially since they would be playing with the momentum in their favour.

High probability, short term trading, is another style that has become popular. The basic concept behind this is that you want to catch many short term trades with a high probability of profits, but that the profits are not necessarily high. A great book to read on this style would be "Street Smarts: High Probability Short-Term Trading Strategies"by Laurence Connors & Linda Raschke.

Low probability, long term trading, is a style that is used quite often in system trading. An example of this would be the turtle trading system. The concept behind this is that while you do control the risk you take by having cut loss, and that you would actually have a very long string of losses before you actually get a winning trade. But when you do get a winning trade, the profits from that trade would more than cover all the previous losses. There is a free ebook available online. Go google.

Multibaggers doesn't exactly explain risk control, but it is similar to that of low probability long term trading. In this case, it can be said that there isn't really any risk management per se, because you are so sure of the stock that you are willing to hold it over the bad times, until it turns a multi triple digit percentage returns. A multibagger is called a multibagger, because a one bagger basically mean the stock turned a 100% return. So a multibagger is a stock that turned multi triple digit percentage return.

Arbitrage is a very interesting form of trading. In a true arbitrage, risk is zero. How can risk be zero if you are investing? In an arbitrage trade, essentially you will do a series of trades immediately when you decide to take a position, such that the profits is actually secure when  you made the opening trade. This is different from the other methods above, because in the above examples, profit is only made when  you close the trade. How does this work? Just a simple example. Imagine you have a friend that promises to buy stock X from you at $1, 1 month later. Today, you found someone willing to sell it to you at 90cents. So, the moment you can get your friend to promise to buy from you the stock, as well as purchasing the stock at 90cents today, your profit is locked the moment you open a trade. When you close the trade, all you do is unwind that position. Of course, true arbitrage is more complicated than that. I suggest you read a book if you want to know more.

A book I would really recommend in term of risk control is "Trade Your Way to Financial Freedom" by Van K Tharp. A very very good book on psychology, risk management and position sizing.

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