Stop-loss: There are many forex trading strategies and factors to take into consideration when adjusting risk to reward ratio. Such strategies are useful before and during trading sessions.
The reason for making predictions in the first place is to reduce the imminent risk that comes with forex trading. It is crucial to take the required steps to protect your investments as the markets are continually changing.
The primary factors to take into consideration are the market conditions, trader forecasts, and investment size. In this article, we will discuss one of the most common approaches to avoid losses and how to implement the calculation of stop-loss in forex trading.
What is stop-loss?
Before we go any further into calculations, let's have a look at what the stop-loss is and how traders use it. A stop-loss is merely an operation placed on your trading platform when selling or buying security.
The stop-loss operation is meant to decrease losses for traders if the trade goes against them.
This strategy gets widely utilised in all tradeable asset class. The tool is handy when you decide to apply a proper risk management technique that can save you time and money.
Stop-loss is the tool that all levels of traders must learn how to use and recommended for all types of trades. From currency pairs to commodities, CFDs, indices, and cryptocurrencies to cut your losses.
What makes stop-losses so important?
First of all, what does a stop-loss signify in the foreign exchange market?
Firstly, the stop-loss will minimise your risk and maximise potential profits if appropriately applied in everyday trading.
In 98% of the losing trades within the global markets are because of no proper risk management. Also, it's importance goes beyond just fundamental analysis where traders need to adapt to market conditions quickly.
Here is when the mistake usually happens: - traders are opening a position based on technical and fundamental analysis, and the trend moves against them. The fear kicks in, and traders begin to panic or second thought their exit strategy.
Usually, it ends with a small loss when trades panicked and closed the trades early. However, not every retail trader is that lucky, and most of them end up losing all their invested capital.
Before adjusting your risk to reward ratio, make sure to be emotionally stable. Once you master that everything else is just trial and error before it will become natural.
When I mean, trial and error make sure you practice on a DEMO before even considering to open a live trade.
How to Correctly Place the Stop-Loss
Stop-Loss placement is highly dependant on every trader's goal. What I mean is that every single trader is different and everyone have different targets when it comes down to trading.
Beginner traders that are not in control of their emotions and limited market awareness might choose a two to one risk to reward ratio.
So, if he decides to place a stop-loss of 10 pips, it means that the take profit will be at 20 pips.
Let's assume that he is trading with a mini lot that mins he is risking not more than $10 (1 mini lot X 10 pips = $10). Also, if his analysis is correct, he made double, and that is $20 ( 1 mini lot X 20 pips = $20).
As you can see, the calculation is quite easy to grasp as long as you know, basic pip calculation and simple math.
Similarly, experienced traders might choose a trailing stop-loss that changes continuously.
The purpose f trailing stop-loss is to close on profit even if the trend reverses. In theory, that might sound easy, but in reality, it is not.
Allow me to explain:
Assuming that you open a long (BUY) position of 1 mini lot at the price of 100 and you use risk management of 5 to 3.
So it means that you are willing to lose $30and gain $50, minimise the risk and maximise the profit. Giving that proper fundamental and technical analysis is in place, you can alter the stop-loss as the market is moving in your favour.
You are moving your stop-loss every 5 or 10 pips with the market moving your way. Eventually, that can bring you to a spot where whatever happens breakeven, or you make profits on stop-loss.
Calculating the stop-loss placement
The general measure of the trade is carried out using pips/cents/ticks or account- dollars.
Each one of these provides the trader with a hint with regards. To which investment amount has a risk of loss with every specific trade. The most direct measure is the account-dollar because it indicates the exact amount that you may lose in actual dollar value.
For both measures - the difference between the stop loss and the entry position is equivalent to the risk. For example, if the entry point is $10 and the stop-loss is $10.50, then the likelihood is $0.50.
How to Manage Account Risks
Once you comprehend the placement of risk management, the only question that remains is.
What do you wish to achieve by trading?
If your answer is to get rich, then I wish you good luck and strongly advise you to visit a casino. Trading forex takes time and discipline, and it is not a get rich fast scheme.
Every investor has different targets that are directly impacted by market knowledge and time. We all know that not everyone is professional traders. The majority of retail traders are doing this as a secondary source of income.
The markets don't turn out as predicted, and that's the reason why you want to use a risk management strategy.
If you are a beginner trader, make sure to use stop-loss in all your trades to minimise the risk.
Also, remember that in trading, the markets are always changing and on many occasions, trades closed on stop-loss three or more times before reaching take profits.
Using stop-loss is situational and entirely up to individuals since not everyone trades the same, and if one strategy is working for some that don't mean it will work for everyone.