Stop Loss Trading Summary: Points To Remember When Setting Stop Loss Orders
The key to setting stop losses in Forex trading is not to set too tight or too far and not exactly on the support or resistance levels.
A few pips below support or above resistance levels is the best place to set these stop loss orders.
If you're going long (buying a currency pair), just look for a nearby support level that is below your entry point and set this stop loss order about 10 pips to 20 pips below that support level. The example below show the support level where a forex trader can set up their stops just below the support level on a forex trading chart.
Support Level for Setting Stop Loss Level for Buy Trade
If you're going short (selling a currency pair), just look for a nearby resistance level that is above your entry point and set this stop loss order about 10 pips to 20 pips above that resistance level. The example below show the resistance level where a forex trader can set up their stops just above the resistance level on a forex trading chart.
Resistance Level for Setting Stop Loss Level for Sell Trade
You can also use stop loss orders to lock in profits, Not Just for Preventing Losses
The advantage of a stop loss order is that you do not have to monitor on a daily basis how the forex market is performing. This is especially handy when you are in a situation that prevents you from watching your trades for an extended period of time, or when you want to go to sleep after trading the whole day.
The disadvantage is that the forex price at which you set these stop loss orders could be activated by a short-term fluctuation in a currency price volatility. The key is picking a stop loss percentage that allows the currency price to fluctuate within the day to day range while preventing the downside risks.
These stop loss orders are traditionally thought of as a way to prevent losses thus the name. Another use of these stop loss orders is to lock in profits, in which case it is referred to as a trailing stop loss.
For a trailing stop loss order it is set at a percentage level below the current market price. This trailing stop loss level then adjusted as the trade unfolds. Using a trailing stop level allows you to let profits run while at the same time ensures that should the market turn you will have locked in some of your profits.
These stop loss orders can also be used to eliminate risk if a forex trade becomes profitable by moving the stop loss order to the level where the forex trade was opened. If a trade makes some reasonable gains then the stop loss order can be moved to break even point, the point at which you bought the trade, thereby ensuring that even if the trade moves against you, you will not make any loss, and instead you will break even on that forex trade.
Trailing stop orders are used to maximize and protect profit as a currency price rises and limit losses when the price falls.
A good example is when you use the parabolic SAR Forex Indicator and keep moving your stop loss order level to the Parabolic SAR level.
Parabolic SAR Indicator for Setting Trailing Stop Loss Orders in Forex Trading
Another example is where a Forex trader moves his stop loss by a certain number of pips after every few hours or after every hour or after every 15 minutes depending on the Forex chart time frame that the forex trader is using to trade forex.
In the forex trading example above the parabolic SAR which had a setting of 2 and 0.02 was used as the trailing stop for the above forex chart. The forex trader would have kept moving the trailing stop level upwards after every Parabolic SAR was plotted until the time when the Parabolic SAR was hit and the forex trend direction reversed.
A stop loss order is a simple tool, yet so many investors fail to use it. Whether it's used to prevent excessive losses or to lock in profits, nearly all investing styles can benefit from this trading tool.
Points To Remember When Setting These Orders
Here are some important points to remember:
- Be careful with the points where you set these orders. If a currency normally fluctuates 50 points, you do not want to set your order too close to that range else you will be taken out by normal market volatility
- Stop Loss orders take the emotion out of a trading decisions and by setting one you set a predetermined point of exiting a losing trade, meant to control losses.
- Traders can always use indicators to calculate where to set these stop loss levels, or use the concepts of Resistance and Support Levels to determine where to set these stop loss orders. Another good indicator used to set these stop loss orders is the Bollinger bands where forex traders use the upper and lower band as the limits of forex price therefore setting these stop loss orders outside the Bollinger Bands.