Forex Trading Risk Management 3 — Questions and Answers
Question 1: What is 'correlation risk' in forex portfolio management?
- Risk from trading currencies with similar economic drivers simultaneously (Correct answer)
- The risk of a broker defaulting on trades
- Risk caused by holding trades over the weekend
- The danger of using multiple chart timeframes
Correct answer: Risk from trading currencies with similar economic drivers simultaneously
Correlation risk arises when multiple positions move in the same direction because the underlying currencies share economic relationships, magnifying losses.
Question 2: A trader uses 100:1 leverage and their position moves 1% against them. What happens to their margin deposit?
- It decreases by 1%
- It decreases by 10%
- It is completely wiped out (Correct answer)
- It is unaffected until a stop-loss is hit
Correct answer: It is completely wiped out
With 100:1 leverage, a 1% adverse move equals a 100% loss of the margin deposited for that position, wiping it out entirely.
Question 3: Which order type guarantees execution at the exact specified price regardless of market conditions?
- Market order
- Stop order
- Limit order
- No order type guarantees exact fill price (Correct answer)
Correct answer: No order type guarantees exact fill price
In fast-moving or gapping markets, no order type can guarantee execution at the exact price specified; slippage can occur on limit and stop orders.
Question 4: What does 'position sizing' help a trader control?
- The number of currency pairs available to trade
- The dollar amount at risk on any single trade (Correct answer)
- The speed of order execution
- The spread charged by the broker
Correct answer: The dollar amount at risk on any single trade
Position sizing determines how many units or lots to trade so that the monetary risk per trade aligns with the trader's predetermined risk percentage.
Question 5: A trader doubles their position size after every losing trade to recover losses faster. This strategy is known as:
- Pyramiding
- Hedging
- Martingale (Correct answer)
- Scaling in
Correct answer: Martingale
The Martingale strategy involves doubling position size after each loss, which can lead to catastrophic account blowout during a losing streak.
Question 6: Which of the following is a key advantage of using a fixed fractional risk model?
- It eliminates all losing trades
- It keeps risk proportional to account size, scaling down naturally during drawdowns (Correct answer)
- It allows leverage to remain constant regardless of losses
- It maximizes position size on every trade
Correct answer: It keeps risk proportional to account size, scaling down naturally during drawdowns
Fixed fractional risk (e.g., 1% per trade) automatically reduces the dollar amount risked as the account shrinks, slowing the drawdown spiral.
Question 7: Gap risk in forex is most commonly encountered:
- During midday London session hours
- At the market open on Sunday after a weekend (Correct answer)
- When the spread is unusually narrow
- During a trending market with high volume
Correct answer: At the market open on Sunday after a weekend
Forex markets close Friday and reopen Sunday evening; geopolitical or economic events over the weekend can cause price to open significantly higher or lower than Friday's close.
Forex Trading Risk Management 3
What is 'correlation risk' in forex portfolio management?