Managing trading risk with stop orders

If you are a forex trader and you don’t want to be constantly staring at a screen when your trades are working their magic, you’ll need to use stop orders. Using stop orders will minimize your risk and give you the ability to manage it much better.

The most usual stop orders forex traders use are trailing stops and stop-loss orders. These terms might mean nothing to you right now, especially if you are just starting out, but it is important to know as much about them as possible so that you really can manage your risk when trading, regardless of your trading strategy. When you can do this, you’ll be a much more successful trader.

Trailing Stops

The best time to use trailing stops is when a position you’re trading becomes significantly profitable. You really don’t want to run the risk of losing the money you’re making, but you’re not quite ready to leave the trade altogether despite the profit – so you use a trailing stop. The process involves using a stop loss level that is more fluid than usual. So you can move it to a better level, which should be above the breakeven point, once you know you’re making a profit, and therefore lock those profits down and not risk losing them.

The trailing stop not only allows the trader to keep hold of their profits until there is a downturn in the market (at which point the trailing stop will automatically shut the position down in order to protect those profits), but it will also mean that any profits made before will be kept safe.

When using the trailing stop you do need to allow your profits to run, which isn’t something everyone is comfortable with. However, if you have entered the trade at a good starting level, the trailing stop will keep you in profit – at least, that’s the idea. You do need to put it in the right place for this to happen. When using a trailing stop, you could essentially hold a position for a number of months and make some impressive profits, which is why you don’t want to touch anything in the meantime, no matter how tempting that might be. And, when the trade does end, you can take a look and determine whether you want to re-enter it, using the trailing stop once more.

Stop-Loss Orders

A stop-loss order is used to limit the risk in case the market moves against your current trading position. These stop losses are placed in the market at a lower rate than the current one so that if the rate drops, the position you’re trading automatically shuts down and liquidates.

To use a stop-loss order well, you should execute it at the best price you can see in the market once the set order level has traded. The gap between the real level and the stop-loss order level is called the ‘slippage’.

When you understand the technical analysis of a trade you can more confidently place stop-loss orders in the right places. Ideally, you should choose long positions that come in under support levels for stop-loss sell orders. For stop-loss buy orders you should choose something over the short resistance levels. Doing this means there is more chance of reaching a profit before the stop loss comes into effect. For more information on stop-loss orders, click here.

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