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Trading Risk Management – Tight Stop Losses
Sep 6th
Trading Risk Management – Tight Stop Losses
Here’s an extract from a great email conversation with one of the YourTradingCoach readers, in which he discusses the use of tight stops:
”I adopted this approach in the beginning, but got stopped out of the market so many times I started to widen them. I’ve had on too many occasions the market pull back on my stops only to find that it went on to do what I thought it would. Meaning, I lost out again on a good trade. However, I do admit the financial risk is higher. But expecting the market to move fast every time in your desired direction is a lot to ask.”
This is a common observation. There’s nothing more frustrating than being stopped out and then watching the trade move on to your target without you.
There’s actually no right or wrong answer with regards stop placement, only what makes you money and what doesn’t. So if wider stops provide a greater edge for your trading, then that’s absolutely the right thing for you to do.
For me though, wider stops just don’t fit with my trading style, risk tolerance or psychology.
In any case, I thought it might be beneficial for some traders to hear a little about what tight stops mean to me.
It is my belief that regardless of whether a trader uses a tight stop or a wide stop, it should be in exactly the same place.
Having tight stops doesn’t mean finding an entry and then placing a stop loss a small fixed distance away and just hoping it isn’t hit. Regardless of whether a trader’s intention is to operate with a tight or wide stop, the stop loss should be placed in a position which invalidates the setup.
If my stop is hit then it means that either something has changed in the market, or my setup was invalid. Either way, I shouldn’t be in the trade.
So for me, the stop should be in the same place, regardless of how large my risk. That place is where I have proof that my setup no longer provides an edge in the market.
The low risk (tight stop) comes NOT from positioning the stop close to the entry, but rather from positioning the entry close to the stop.
For example, if my intention is to enter LONG on a retracement to an area of support, my stop loss will be below the swing low which forms at support. Then, I’ll aim to enter as close to that support as possible. This is how I get tight stops.
In some ways this is opposite to most traders. They’ll find an entry and then work out the stop loss position. I’ll be different in that I know where the stop is, and then work out the entry. And if I can’t get an entry that allows sufficiently small risk, I’ll just pass on that trade.
Oh, and one other important point - lower risk comes also from incorporating a time stop. If the trade doesn’t go my way within a reasonable amount of time, then I’m outa there. I recommend reviewing your trades and gaining an understanding of how quickly your setups should be moving into profitability. Then if that time period passes and you’re still stuck in the vicinity of the entry, or in a drawdown, then maybe your setup has lost its edge. Maybe it’s time to stand aside and look for the next opportunity in the markets.
Happy trading,
Lance Beggs
(c) Copyright 2008. Lance Beggs. All Rights Reserved.
Would you like to learn more about how I daytrade the forex and emini markets? Check out the articles, videos and trading resources on my website right now at www.YourTradingCoach.com
Stop Loss Order for Day Trading
Aug 15th
Stop Loss Order for Day Trading
What is Stop Loss Order?
Stop loss order is an order to close position if/when losses reaches a particular point. In other words this is an order by which you can decide the maximum loss that you are ready to accept. Here we are going to discuss only Stop Loss Order regarding Day Trading, but the same principle can be used for Swing Trading or Long Term Trading.
Following Example can explain the point.
If u have placed a buy order at 100. You need not place a stop loss order till your trade gets executed. Once your trade gets executed, you have to place another order for Stop Loss.
Now lets assume that CMP(Current Market Price) is 100.50.
Stop Loss Order should be like this
Type= Sell
Quantity = Quantity you have got (received).
Price=99.40
Trigger price =99.50
Note: Trigger price is the price at which your order gets triggered (fired). Till then it’s on hold.
So in our example If CMP falls from 100.50 to 99.55 nothing will happen but at 99.50 your order (Stop Loss) for sell will get executed at a price of 99.40 so your loss would be limited to 0.60 (100-99.40) only.
Additional Points:
Percentage Of Stop Loss
For day trading stop loss of 1-2% max is recommended. Some traders like me use 0.5% stops, which is what I have explained (100-0.5%*100=99.5). You have to decide the % according to your experience & confidence.
If you don’t use stop loss order the price can go down by 5% or even 20% & you won’t be able to do much then, hence for every trade without fail you should use stop loss order.
A warning, don’t ever think that just because you have placed stop loss order, you are 100 % safe. That’s not the case even after a stop loss order you can suffer huge loss. Surprised? See how.
In the above example if the your stop loss order gets triggered at 99.50 for 99.40 but there is no buyer at 99.40 so the order will get triggered but not executed till there is some one ready to buy at 99.40. In mean while some one else has put a sell order at 99.30, now you are at number two still waiting, then if some one puts a sell order at 99.10 you are at number three & hence your order may left behind while others keep putting orders at less than your order & you may wonder why my stop loss order did not get execute!!!!!!!!!!!
Solution for above problem is as follows.
The gap between trigger price & price is important. If you want your stop loss order to be more secured, increase the gap.( Gap between Trigger Price & Price). i.e. triggered price at 99.50 & price 99.10(instead of 99.40). You should change the gap depending upon the share you trade. More volatile stocks require big Gap while for slow movers small Gap is enough. You can decide the Gap on the basis of difference between best buy & best sell (bid /ask) in second window.
Stop Loss For Shorting
For shorting that is selling first & then buying, the stop loss order has to be reversed as follows.
If you have shorted at 100(CMP=99.50)
Stop Loss order should look like this
Type =Buy
Quantity = Quantity you have shorted
Price=100.60
Trigger Price =100.50
Cancel/Modify Stop Loss Order
The most important thing if your stop loss does not get hit & you earn profit by squaring of your position; do not forget to cancel the stop loss order. Yes I repeat do not forget to cancel the stop loss order. Other better option is that you can modify your stop loss order as Trailing Stop till the execution. (I do this as I forget to cancel the stop loss order.)
Following example can explain how you can do this.
Your Stop Loss for first example was 99.50 for 99.40, right? Now if the CMP has gone up from 100.50 to 102.20, you can modify your stop loss order to 101.10 in place of 99.50 & 101.00 for 99.40. If price keeps going up, keep following the price by modification.
Always remember the following rule.
For buy’s Stop Loss Order (Type=Sell) “Trigger Price” should be more than “Price” of Stop Loss Order & for Short Selling’s Stop Loss Order (Type=Buy) “Trigger Price” should be less than “Price” of Stop Loss Order.
Important Note:
Some Trading Systems allow Trader to enter Stop Loss Order at the time of Actual Order and some Systems allow Stop Loss Order to get automatically cancelled against squaring off position.
Happy Day Trading
Vishal Deshpande