Underestimating Stop Loss could lead to bankruptcy, especially if you are a beginner who doesn't know how to manage risks and only go for profit without analyzing the market situation.

Stop Loss

When we trade, the price moves up and down in a certain range. There's a time when we'll get profits after floating uncertainly. Because of that, many beginners thought, "Just let the position floats now; it will gain profit anyway."

The condition could worsen if the margin call (MC) comes earlier than the profit.

This is where the Stop Loss comes in. Stop Loss is meant to protect traders from bigger loss during a losing trade.

 

Understanding Stop Loss

Stop loss is a risk management tool commonly used in trading to limit potential losses. It is an order placed with a broker or trading platform to exit from a trading position when the price reaches a predetermined level, known as the stop price.

The primary goal of a stop loss order is to safeguard investors and traders from further losses if the security's price moves against their position. By setting a stop price, usually below the purchase price for long positions (or above for short positions), the investor ensures that if the security's price falls (or rises) to that level, an automatic sell (or cover) order will be triggered.

When the stop price is reached, the stop loss order converts into a market order, meaning it is executed at the best available price, which may differ slightly from the stop price. Factors like market volatility, liquidity, and the speed of order execution can influence the actual execution price.

Stop loss orders are particularly beneficial in volatile markets or when investors and traders cannot actively monitor their positions at all times. They provide an automated exit strategy to minimize potential losses. However, it's crucial to understand that stop loss orders do not guarantee execution at the specified price, especially in fast-moving markets where prices can change rapidly.

 

Is Stop Loss Speeding Up Your Loss?

No, stop loss orders do not cause losses to accelerate. On the contrary, their main objective is to minimize potential losses and safeguard traders if the price of a security moves against their position.

When a stop loss order is activated, it transforms into a market order and is executed at the best available price. This means that the security is sold at the prevailing market price, which may slightly differ from the stop price. Factors like market volatility and liquidity can influence the execution price.

While it is possible for the execution price to be worse than the stop price in fast-moving or volatile markets, the stop loss order still serves its purpose by capping the potential loss. Without a stop loss order, there is no predetermined exit point, and losses could continue accumulating if the security's price keeps declining.

It's essential to recognize that the effectiveness of a stop loss order relies on various factors, including:

  1. Market conditions
  2. Order execution speed
  3. The security being traded

Traders should carefully assess these factors and establish stop loss levels that align with their risk tolerance and investment strategy.

 

How to Use Stop Loss to Limit Losses

The problem is, how to determine the right stop loss? It's better to try the following pointers :

  • Look at the range of daily movement of the pair being traded. Each pair has a different character. For EUR/USD, SL 30 is probably enough, but for GBP/USD, beware, it may not be long-lasting.
  • Another alternative is to use the parabolic SAR point on the initial trend to determine stop loss.
  • Another option is to use the levels on Fibonacci Retracement as the standard for TP or SL.

Most importantly, traders should count how much they can pay if they enter the wrong position.

The suggestions above are just examples. Each trader has the right to find their fate. It all depends on the trading plan and indicators used by each trader.

One thing that traders should understand about stop loss. SL's range will affect the degree of our confidence in achieving TP.

For instance, the analysis result stated GBP/JPY would rise as much as 50 points. Okay, so the trader set it to 50 points. How's SL? If they set SL at 30 points, the degree of their confidence will be about 40% or, in short, not so sure TP will be achieved. If trader add SL to 50 points, the degree of confidence rises to 50%, or at least in the same percentage between TP or SL, which one it gets first.

If trader add SL again, which becomes 150 points, the degree of confidence rises again to 100%, in other words they are sure 100% TP will be achieved as SL is quite far.

So, the wider the SL range, the higher the trader's confidence that TP will be achieved. That's why many traders are provoked to do open positions without SL. With the hope of achieving TP, negative floating up to hundreds of pips is kept with only 5-pip TP.

It's too naive. The one limitation of negative floating is only the available margin. Such a trader is commonly called the follower of Stop Loss = Margin Call.

Usually, if we already had many negative floating positions, we won't be able to cut loss. Instead, we'll just be waiting for the margin call coming and expecting anxiously the price will turn back. Surely, this is inconvenient, isn't it?