Why does Stop Loss Orders could get you Broke?

Lots of people are afraid of heights but not me, I am afraid of depths. Let me tell you a little story: “there were two sad employees in the back of a circus and a stranger stopped in front of them:

-          Hey, what happened? Why are you so sad?

-          Because an old elephant died today!

-          Oh poor animal. I guess you care a lot about him, isn’t it?

-          No, it’s not that. We have to dig a hole to bury him and we only have shovels”

When you place a trade don’t move the stop loss order (see Investopedia). Stop digging your own hole!

 

How you can go Broke from Misusing Stop Loss Orders?

They say that trading is very easy. There is a 50% chance to be right and only 50% to be wrong. How’s that? Well, whatever you are trading, either Forex, commodities or the stock market, your asset can only go up or down. There’s no other way. Whatever side you chose to be though, there is a very high probability for the market to turn against you. That’s why you have to use a stop loss order – to limit your losses. But, you know what I was doing when I was young and inexperienced? I was moving my stop loss order larger hoping that the rate action is gonna come back on my track. In other words, I was digging my own hole. Larger I was moving my stop loss, larger the hole was. By acting like this is not a matter of “if” you gonna fall, but “when”! There is a saying that only a few of the Forex traders are aware of: “take care of your losses and your profits will take care of themselves”. You have no idea how true this saying is. Remember that you are the only one digging the hole. Well, if your broker is a market maker (see http://en.wikipedia.org/wiki/Market_maker) he will be more than happy to help you and when you gonna ask him why he did it, he will answer you: “I thought you wanted to build a swimming pool”. Isn’t this the reason why we all got into the Forex trading? Because we all dream to have a villa with our own swimming pool and a Mercedes in garage? Sometimes the dreams come true, but you have to work on the foundation of the house first.

 

 Conclusion - Be the Mouse or be the Elephant?

If the chances to be right or wrong on a trade are 50/50 did you ever asked yourself when were you more wrong? when you first set up the stop loss order or when you decided to move it larger? The chances in this case are the same: 50/50. If you want to become a successful trader, you have to limit your losses. Stop adding more “wrongs” to your trades.

‏If you are an elephant falling in a mouse hole, nothing will happen to you, but if you are a mouse, falling into an elephant’s hole, you will never get out of there. Either you are a “mouse” or an “elephant” here are some tips for you:

• Place your stops at a point that, if reached, will reasonably indicate that the trade was wrong.
• Do no move your stop loss larger, no matter what. You can move it closer though, once the trade is running in your direction.
• You should trade with a risk management no larger than 2%. If the trade you are thinking to take needs a wider stop loss than 2%, don’t take it. Look for other trades.
• The stop loss orders should always be placed above a resistance or under a support. Never place your stop loss in no one’s land even if respects the 2% risk management.
• Never trade without a stop loss.
• If you want to be a profitable trader, you should look for a minimum 1:1 risk/reward ratio. If your stops needs 50 pips then your minimum reward should be the same.