A stop loss order is used to prevent extensive losses, especially during severe market dip situations. By placing a stop loss order, you can automatically close your position if the market moves against you. It frees you up from monitoring your portfolio constantly.
In volatile markets, uncontrollable losses that could wipe out your entire account can be prevented with the use of a stop loss order.
What is a stop loss order?
A stop loss order is an advance order that signals the trade execution as soon as it reaches a certain price point. You can use stop loss in Forex trading if you fear that the currency pair price will move against you. Stop loss orders execute the trade at the lowest possible price when buying the currency pair and at the highest possible price when selling it.
For example, if you go long on EUR/USD and set the stop loss order at 10% below the price at 1.8, your losses will be limited to 10%. This means that if EUR/USD falls below 1.8, your trade will be executed, and the currency pair will be sold at 1.8. However, if the market moves in your favor and the currency pair price movies to 2.2, the trade will not be executed.
Another type of stop loss order is a limit order which you can use to specify the maximum and minimum price at which you want to sell or buy a currency pair. As soon as the currency pair price reaches the mentioned price point, the limit order is triggered to end the position at the same price or a better one. Limit orders are only closed if and when the currency pair prices reach the stop loss limit or a price better than the stop loss limit.
Benefits of stop loss orders
Eliminates human emotion
Forex trading can be exhausting and emotionally draining. Depending on market conditions, a trader can feel overconfident or apprehensive. Emotions can interfere in making trade decisions. A stop loss order protects you against urges to exit too soon or hold onto a position for too long. Since the limit is already set, your emotions do not influence trade decisions triggered by impulsiveness.
Mitigates risk and protects profits
The primary function of setting stop loss orders is to limit risks and protect profits. It helps you manage money in your trading account as it allows you to only exit the trade when the limit is reached.
Minimal supervision of trades
When you place a stop loss order, you enable the system to execute orders automatically. As there is a cap to potential losses with some locked-in gains, you can take a break from the intense Forex trading environment and come back refreshed to make more ideal trades.
How to place a stop loss order
Going long
When you are buying a currency pair, consider placing the stop loss at a level that gets you out of the position if the Forex market turns against you. Place the stop loss order below a swing slow, the point where the prices fall and immediately bounce back. This is also called a support level. It is ideal for you to trade at this level to minimize losses. The swing lows should be moving in the upward direction as you buy the currency pair.
Going short
When you sell a currency pair in the market, the ideal placement for a stop loss order is above the swing high. A swing high occurs when the rising prices stop rising and immediately fall. This point is also known as the resistance level. The swing highs should be moving in the downward direction when you go short.
Alternative points
You do not always have to place your stop loss orders below the low swing or above the high swing. Depending on your entry and exit strategy, you can also place your stop loss orders at an alternative price. For example, when the market is volatile, you can use the Average True Range indicator to see how much the market prices are changing in a day. You can then set up a stop loss order based on the volatility and place the order at a price outside of the fluctuations.
Limit your losses with stop-loss orders
Stop loss orders are ideal if you want to avoid drastic price movements in the Forex market. They protect your profits and mitigate losses. At Blueberry, we provide our traders tools to study market movements. Our traders then use these to fix stop-loss orders at the most relevant prices.
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