I should be coming your way this week with the “weekly charts in focus” rather than a lesson. Just because it is a Christmas week and markets are usually thinner during festive seasons, I’ve decided to join the big players to holiday too. But don’t leave just yet, there’s a chart that has been on my watch list for weeks and it might just materialize in this festive season. Just while you are on it, enjoy this lesson and practice it. It’s about how I set my stop loss; I am certain it will be of great help to you. That is if you are not sure of the right way to set them.
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Popularly referred to as SL by many traders, a stop loss is an order you set in the market to prevent you from losing more than enough in a trade if you are wrong with your prediction. It is a helpful concept which plays a very pertinent role in risk management. This is because, how much you lose when you are wrong can determine your success in this industry. Strive to lose small always.
A theory about frequent stop loss hits.
Many traders complain about how bad their brokers are. This is because their stop losses are always caught. To that effect, they think that they fall prey to a theory known as stop loss hunting. The market maker method strategy has popularized this term so much.
These group of traders seldom sit to reflect, whether the problem could be with them and how they set their stop losses. Do not get me wrong, there are scam brokers alright, but your stop loss is not getting hit regularly because your broker is hunting it. Most of the time, the problem is you and you need to learn how to set it the right way.
A wrong way to set it.
A trader friend hit me up some time back and told me about how he had ended up breaking even for some years. If a trader manages to break even, you need to really respect the effort he puts in; considering the lethal nature of the markets. We went further into the conversation and I realized that the problem was with how he set his stop loss.
He set his stop losses according to nothing but x amount of pips from the entry point. First of all, that is a really faulty way of setting stop losses because market movement is not backed by a certain amount of pips. It is backed by supply and demand. If it is backed by supply and demand, then setting a stop loss based on that concept should not be a headache right?
X amount of pips setting of stop loss does not take into consideration the volatility of the market at a certain period of time. If the markets are highly volatile, you would need a wider stop loss and if it is less volatile you would need a narrow one. That is, SL setting is highly dependent on the nature of the market, so it does not need to be some static amount in pips.
One of the right ways to set stop loss.
Within the course of the week, I took 3 trades (2 from my weekly forecast and 1 based on a signal within the week); I will show you how I managed them with my stop loss setting strategy. I will also show you, how I would have set my stop loss for a trade I didn’t take.
Trade 1; stop loss way below resistance on USDCAD.
This trade was solely based on the break of symmetrical triangle resistance. I entered long with an instant execution as price broke the resistance and stalled on it for a while. However, it was not a very good one for me since it did not rally instantly after the break and I exited pre-FOMC for a small profit. See how the stop loss was strategically placed below the triangle support; in excess of two lower highs (marked with correct).
Trade 2; stop loss way above support on CHFJPY.
Just as the JPY pairs were my pick last week, this trade was my favorite of the week. It was based on the break of channel support. I entered short with a sell stop order. Even though I set the stop loss above the channel support, I still gave it room to run by extending it above the most previous lower low (marked with rectangle). Target of 3:1 was gladly met barely 48 hours after entry.
Trade 3; stop loss hit on EURUSD.
I took this trade based on break of triangle resistance. It was even affirmed after there was pin bar retest on the 4 -hour basis. This market is never short of false breaks eh? I had my stop loss right below the triangle resistance turned support. On the pin bar retest, it missed my SL short of a few pips but before the trading week ended; I took a beating to it.
The trade I didn’t take.
An area of support turned resistance prevented GBPUSD from an up move. Price had been rejected twice when that signal came. I only missed that trade because my entry did not trigger. However, my stop loss was right above the support turned resistance (red line).
GBPUSD is still my pick and only pick of the week. The bearish scenario described above is still in play. We have 4 rejections now.
Just as I have illustrated with 4 trades, setting a stop loss should not be a headache. Based on supply and demand; the simplest way is setting them above support in sell trades and below resistance in buy trades for breakouts (or below support in buy trades and above resistance in sell trades for continuations) .
This style of stop loss setting takes into consideration the market structure in play. The market structure defines the support and resistance clearly for you; and it helps you hide your stop losses above or below key levels. If the market hits your SL, simply move on to the next trade.
I might be missing out on another strategic way of setting stop losses; kindly let me know how you set yours in the comment section below.