Market opportunities are all around, and so are risks associated with investing in such. Any trader ought to apply risk management to their trades, and one of the most effective and most widely used risk management tools is a Stop Loss. These orders are an integral part of any well-rounded risk management.
If we understand the number one mistake in trading, we can assume that eliminating it is the key to success. Consequently, success is not to underestimate risks and accumulate losses. And how we do that is what we'll try to answer in this article.
For those of you who are new to Forex trading, a Stop Loss (SL) is a pending order that automatically exits a trade when the market turns against the position. It sells a long position or buys back a short position, which in essence means that a Stop Loss order becomes a market order once the market reaches a predefined price level.
However, keep in mind that during high market volatility, for example, news releases, the imbalances in the market may lead to slippage and widening of spreads, which might fill your SL order at a different price. While slippage is a natural occurrence, it's vital to see how your broker approaches it from the perspective of trading advantages.
First thing's first
You should place your SL order tighter than the potential profit target to maximise the trades risk-to-reward ratio and improve profitability in the long run.
Secondly
Whichever technique you're using to find potential SL levels, remember that there are five different types of Stop Loss orders: chart stops, volatility stops, time stops, percentage stops, and, lastly, guaranteed stops.
Chart stops are probably the most effective and popular SL type, as they're based on important technical levels, such as support and resistance level, trendline, channels, MAs, patterns, etc. Generally speaking, because a chart stop is so technical, you ought to be looking at it. You should place it by looking at its very essence, the chart, as opposed to how much you can lose.
Volatility stops are based on the current or historical market volatility of a currency pair. You can use indicators in combination with volatility stops to identify average volatility, as it will determine precisely the amount of pips where your SL will be placed.
