Have you ever struggled with placing a stop loss? Have a you ever wondered why you needed one in the first pace? Or perhaps you see your stop loss get hit on a regularly basis?
This article is here to help explain why a stop loss is an absolute must when trading (unless you have tons of experience). And we will show you where you can find the best places for adding such a stop loss, or SL.
The most important aspect when protecting your trading capital is adding a stop loss on each trade. Why?
Entering a trade setup without a SL means that traders are risking all of their trading capital and more. Yes, it is that dangerous. Especially if higher leverage is used.
The SL provides an exit point which in turn allows traders to measure and limit their risk. Both points are important.
First, it also provides traders with a method how to measure their risk per trade, which in turn limits the of any trading account. Traders can measure the risk by taking into account the entry, the SL, and then the lot size.
Second, limiting the risk is a critical point for any risk management plan. If a trader loses for instance 20% of their account on each trade, then the trading capital will probably disappear very soon. However, if a trader limit the risk to 1% per trade, any one loss will not to any serious damage to the trading capital.
The stop loss (SL) should be placed at a logical level in the market. With logic we mean market structure and not a fixed number of pips. Let us explain.
A fixed number of pips does not take advantage of key levels in the market. However, traders who use support and resistance (S&R) levels do benefit from an extra ‘wall’ of protection.
This is because historical buyers and sellers have already placed their imprint. Price tends to repeat itself and hence it often respects confirmed S&R levels.
When trading Forex, CFD or any online trading business, technical analysis (TA) offers the best method to find traders to understand future movements and the path of price action.
Therefore, the most ‘logical’ levels to add a stop loss are always based on TA and placed beyond S&R and invalidation levels.
Here we will explain why the stop loss is a strong tool for the traders: to expect the reversal in the market trends.
One of the main reason why traders lose money is simply because they place the stop loss in the wrong location.
Fig1: GBP/JPY Bearish Trade Setup
Let us take a look at the GBP/JPY bearish and GBP/USD bullish trade setups as shown below in figure 1 and 2. In this example, the entry point is around the 50 to 55% fib level.
Keep in mind that wave 4 may not retrace beyond the wave 1 and the 61.8% Fib level, which is the invalidation level. The Stop Loss will therefore be placed at the 61.8%. Now there are two scenarios:
All in all, Stop Loss levels are a must for all traders. Here are some closing thoughts:
Fig2: GBPUSD Bullish Trade Setup
Youtube: Elite CurrenSea