Improving the timing of your stop-losses is the easiest way to make more money in Forex and CFD trading. Many amateur traders focus on high win rates but do not know how to control their losses. Professional traders, on the contrary, accept and minimize their losses.
Regardless of the time of day you trade, the rules for when to cut losses are similar. The stop loss goal is to exit a trade that is no longer likely to be profitable. Quickly closing a losing trade protects your capital so you can find new opportunities.
Before trading, decide where to cut your losses. It is common to become emotionally involved while holding a position, make a wrong decision and incorrectly cut your losses. Before trading, analyse the market to find your entry point and where to place your stop-loss.
Where to cut losses
As a general rule, stop-losses should be below support for long (buy) positions and above resistance for short (sell) positions.
Below is a review of entry methods and appropriate stop-loss timing based on this principle.
Strategy 1: Range Trading
One popular strategy is to buy at support and sell at resistance. While this strategy has a high winning rate, it can result in losses if you do not cut your losses quickly.
When buying at support, the stop-loss should be below support.
When selling at resistance, the stop-loss should be above resistance.
Strategy 2: Breakout trade
Buying when the market breaks a high (resistance) or selling below a low (support) is called a breakout trade. Breakout trades can yield large profits, but the win rate is low. The advantage of breakout trades is that they do not require large stop-losses. Get the entry timing right, and profits will come quickly.
When buying above resistance, the stop-loss should be below the resistance level. Previous resistance should act as support, but if the price falls below this level, exit the position as soon as possible. Also, if you sell when the price is below the support level, set your stop-loss above support.
Strategy 3: Trend trading
Trend trading is the practice of trading in the same direction as moving averages or trend lines. In a trending market, an upward-moving average acts as support. When using moving averages to follow an uptrend, stops should be below the moving average.
On the other hand, a downward moving average acts as resistance. The stop loss should be above the moving average when opening a short (sell) position.
Trend lines and moving averages use the same stop-loss strategy. When buying ahead of an uptrend line, the stop-loss is below the trend line. In a downtrend selling ahead of a downtrend line, the stop-loss is above the trend line.
Strategy 4: Reverse trade
When the price in an uptrend falls below the moving average line, it signals a decline. In the case of a contrarian strategy, the stop-loss should be above the moving average. Conversely, when the price in a downtrend rises above the moving average, it signals an uptrend, so the stop-loss should be below the moving average.
These stop-loss strategies apply to any trading style (scalping, day trading, swing trading). No matter which trading style, always use a stop-loss order. If unexpected news adversely affects your position, you should also be prepared to exit your trade immediately.
Cutting losses is part of trading. Exiting your losses allows you to focus on finding your next trade. Planning where you will close your position will help you become a calmer, more profitable trader.