To succeed in Forex, you need to use various trading tools. Knowing how to trade without loss requires you to use several techniques and strategies—one of Forex trading concepts that are grossly misunderstood in the stop loss strategy. Many Forex traders convince themselves that a stop loss is not necessary or that it can be substituted with other strategies that can work better. This is because, with a stop loss, you are ceding control to the system for the sell order.
But there is a lot more to stop loss, which we will see in this post.
Why Forex Trading Stop Loss Concept Works
It is an order placed by a Forex trader on a trading instrument. The order is viable until the instrument approaches a particular limit. Once the limit is reached, it automatically executes a buy or sell action based on the order type, such as buy stop Forex, which is a buy the order when it reaches above market price. Or, it can be the buy limit Forex order, where you buy a pending order less than the market price.
Pending orders including the MT4 buy stop, sell stop, buy limit and sell limit orders are stop and limit orders that help catch a price move, and when they move hits them, they get activated.
When you set the limits, it helps you to make rational trading decisions instead of emotional ones. Furthermore, you don't always have to stand vigil over the positions.
Without stop loss buy and sell order, you will not be able to size your trading position, and risk control is not there. It helps define the contracts you want to sell or buy to reach a particular risk. If you don’t have a stop, irrespective of a big position, your risk will be too high to manage.
And the best part is that it will cost only when you approach the buy or sell limit for which you had set it. However, you have to know that it does not assure profits for you or compensate for the lack of proper financial trading methods. Choose appropriate stop loss strategies & techniques and follow it.
Avoid Free Fall with Stop Loss
It is a known fact that market movements can turn volatile at any time. And within a trading day, the volatility present can help you profit. Stop-loss is basically a way to keep a check on the losses you can accrue during the day. If uncontrolled, volatility leads to a margin call ending up in a total loss of your trading investment. For instance, an environmental disaster, terrorist attack, or a pandemic can result in your losing a lot more than what you had bargained.
Not Accepting a Losing Trade
Once a stop loss buy order is placed, you should allow the trade to flow and wait for the market reaction. If things do not work out, the buy order will limit any big loss you may incur. However, amateur Forex traders do not follow this protocol, especially after they have had a winning streak. They prefer to hold onto the trade until it reverts, which can take a few weeks or even years. To avoid this, you have to focus on a particular trade. If it does not work out, move on to another trade. If it is good, take the win, but do not bring in the emotional quotient to play here.
Understand Percentage-Based Stop Loss
When you preset your stop level at, for instance, 1% based on the risk of 1% for a trade rule, you will know how much you will lose in case of a negative turn. Further, the percentage calculation will also help you know about the maximum trades you can do.
For a risk of 1 percent per trade, you can deal with 100 trades. If you consider using a trading strategy that has a win percentage of 60, you get about 2% return granted the risk and profit are limited to the 1%. For a 40% win, the returns are the same, but gains are capped at 2% with the risk of staying at 1%. On the other hand, a 30% winning strategy would incur a loss, which implies it is not a viable strategy.
All the above risk predetermination processes are not applicable if there is no stop loss limit on the trades.Your percentage works best when you set your risk at a constant level regardless of the level of the balance in your trading account.
Trailing Forex Stop-Loss in MT4
In addition to preventing losses, stops help in protecting your profits. The trailing stop loss helps to place a stop between your entry and the present price movement when there have been significant gains in your trade.
The present price will continue if there is more profit to be gained from the market, and it also ensures that you do not lose any money. You can use automatic trailing stop loss with your broker or manually adjust the order, according to technical indicators or price movements.
However, there are disadvantages of trailing stop loss you should know about. Most often, you will not be riding a trend, despite using the trailing stop loss. Sometimes the price may spike sharply and hit your trailing and move on ahead without you.
Trading Without a Stop-Loss Strategy
Beginner traders in Forex do not like this method, as often times they are stopped from exiting with a profit due to the stops placed. They do not like taking a loss when if they had hung on to the trade, they could have made a profit. But the stop loss will make more sense when the price goes against their stop loss and keeps plunging, making them glad that they had it.
The Swiss Franc devaluation is a good instance of how a stop loss can help in limiting the loss. The sudden devaluation of the currency had the price going against the traders for several hundreds of pips and minutes.
Why Stop Loss Doesn't Work On Investing
The stop loss method works well with Forex trading and in stock trading, too. However, it does not work on stock investing as a significant factor in play here is the profitability of the company owning the stock upon which the stock price will fluctuate.
If you had overpaid, it would take time for the price to appreciate, and if the price falls, you can buy more of the shares, which will profit you in the long term. But if you are an active trader looking to be trading in the short term like a few weeks or even days, this method helps minimize your losses. This is because the focus here is on the price of the stock and not on the company performance, which helps control your risk and profitability.
Risks in Stop Loss Strategy
Stop losses don’t always work in your favor. Instead of being an assured safety net, the method can end up in bringing you massive losses. In case of market collapse when liquidity is exhausted, you trade exits at the first price it hits, which could be several percentages from the stop out limit leading to big losses. Your order will not be the same as what the broker had executed.
The Disadvantages of Using Stop-loss
Several traders prefer Forex no stop loss method because of several factors other than the risk mentioned above due to market meltdown such as
- Placing a stop loss makes you vulnerable to a broker-dealer. The dealer can view your exit price orders and turn it to their advantage. But not many dealers resort to this as it can void their license and attract serious legal action.
- A wider spread with price remaining stable can just trigger the stop loss and not your take profit. Thus, in case of a fluctuating spread, this method is the most likely possibility than a profit. This is why several retail Forex trades end up in losses.
- Volatility in the market can increase price temporarily, triggering your stop loss and closes your position but then moves on in your earlier predicted direction.
Stop-Loss Forex: Final Takeaway
Sell stop and buy stop strategy is a valuable tool to minimize your losses, preset your risk, and gives you a proper strategy for Forex trading when used properly. But there are other ways to trade without stop loss profitably. These include stop loss strategy day trading and relying on a margin call from your broker. They also include scalping if you are closely monitoring the trade all day, or use no loss grid EA hedging, which is ideal for newbies as well as experienced traders.