❌ The Significance of Stop Loss:Essential for Successful Trading

9 de jul. de 2023

The Significance of Stop Loss: Essential for Successful Trading and Consistent Profits

The majority of seasoned forex traders unanimously emphasize the significance of implementing stop losses in all trading strategies. Unfortunately, beginners and newcomers tend to overlook this essential rule initially, but eventually, they either grasp its importance or cease trading due to consistent losses. Let's delve into the reasons why a stop loss is crucial for achieving successful trading and consistent profits.

Understanding Stop Loss In Trading

The Stop Loss is a specialized order that serves as a safeguard against trading losses by automatically closing positions when a specific price level is reached. Seasoned traders widely regard the Stop Loss as a pivotal element for successful and profitable trading. This viewpoint is difficult to dispute, especially considering the unfortunate outcomes that often befall beginners who underestimate its importance. Interestingly, even experienced traders, who have achieved remarkable heights in their trading careers, continue to utilize Stop Losses as a testament to their effectiveness.

From a technical perspective, a Stop Loss order can be likened to a typical pending order, triggered when the price reaches a predetermined value. However, the crucial distinction lies in the fact that a Stop Loss order closes an existing position rather than opening a new trade, as is the case with a pending order. Undoubtedly, the key advantage of this tool is its automated order closure, eliminating the need for constant monitoring of open positions. Stop orders frequently prove invaluable in mitigating substantial losses when the market behaves unexpectedly.

Why Use Stop Loss In Trading

A widely recognized trading advice emphasizes the importance of cutting losses in order to allow profits to grow. Many traders have personally experienced the significance of timely closing unprofitable positions. In today's trading landscape, the Stop Loss has become a standard approach for mitigating losses. It is actively incorporated into numerous trading strategies. However, there are some traders who completely dismiss the relevance of this tool and choose not to use it at all. They justify their stance by pointing out instances where prices initially triggered Stop Losses, closed a losing trade, and then abruptly reversed and moved in the desired direction.

While it's understandable to consider such viewpoints and frustrations, this argument revolves more around the skill of utilizing the tool, the proximity of Stop Loss levels to price or other critical boundaries, as well as random events that don't reflect systematic negative performance. Given the market's volatility, accurately predicting future outcomes and safeguarding one's position without incurring capital losses is exceedingly challenging. Therefore, it is prudent to err on the side of caution and employ Stop Losses as a form of insurance.

Benefits Of Using Stop Loss

Unfortunately, many novice traders tend to join the minority and avoid using Stop Losses. This hesitation often stems from the fear of experiencing premature losses. However, any doubts about the usefulness of Stop Losses can be dispelled by considering the following advantages:

1) Limiting losses per trade: The primary advantage lies in the ability to set a predetermined value for the potential loss, thus defining the risk for a specific position. This creates a foundation for effective money management strategies, adding flexibility to trading and safeguarding accounts against excessive drawdowns.

2) Protection against unforeseen events: Traders who actively employ Stop Losses can attest to how this tool has saved their accounts from catastrophic losses during sudden and significant market fluctuations. While opening a trade in the right direction is important, it is equally crucial to protect oneself from unforeseen market situations to prevent substantial losses. Instances where the market swiftly dropped by 50-100 points in a matter of seconds are not uncommon.

3) Stop Losses serve as profit protectors: By being able to limit losses, Stop Losses automatically become mechanisms for securing profits. It is crucial to differentiate this from another commonly used tool in forex and stock markets, known as Take Profit.

4) Psychological factor: The psychological aspect also plays a significant role. Many traders have experienced deep drawdowns where thoughts of financial doom dominate their minds. At such moments, there is often a willingness to spend countless hours in front of the monitor, hoping for the position to return to profitability, even if it's just a few dollars. However, self-confidence alone cannot solve the problem, and the situation continues to deteriorate.

As losses accumulate, regret sets in for not closing the order earlier when the losses were smaller. Profitability becomes secondary, and the focus shifts to minimizing losses as much as possible. Instead of closing the unsuccessful position, traders often find themselves waiting for a rebound, exacerbating their losses. To avoid such losses, nervous tension, and emotional exhaustion, all that was needed was the implementation of a Stop Loss.


This scenario perfectly illustrates the importance of always using a stop loss.

Consider the GBP/USD currency pair, where we plan to enter a trade based on a rebound from the support area marked by the blue rectangle. We decide to take a long position, with an expected profit of $100. However, to manage our risk effectively, we set a stop loss that allows for a maximum loss of $100.



Now, let's see what unfolded. The price unexpectedly dropped below our support area, surpassing our predetermined stop loss level. If we had not set the stop loss, the losses could have potentially escalated to a staggering minimum of $700.



Can You Trade Without Stop Loss ?


To fully grasp the importance of using stop orders and make an informed decision on whether to incorporate them into your trading strategy, it's crucial to understand how neglecting stops can lead to drawdowns:

1) Lost connection: Imagine a scenario where your internet connection suddenly drops, and at that very moment, the market experiences the activity you were anticipating. When the connection is restored, you might find your trade in a significant drawdown, potentially resulting in substantial losses.

2) Unfavorable market development: Sometimes, the market situation evolves in a way that works against the trader's position. In such cases, a properly placed stop loss would automatically close the trade, mitigating the risk of further losses.

3) Ignorance regarding stop loss closing: Some traders refrain from setting a stop loss due to a lack of understanding about when it should be triggered. Consequently, they end up closing the position out of desperation, often incurring losses of 20-40%. This approach leads to a focus on profit fixation, wherein the trader attempts to close other trades that have even minimal profits in order to compensate for losses on losing trades. Ultimately, this only adds more strain and results in new losses.

4) Constant monitoring requirement: Traders without a set stop loss are compelled to remain near their computers at all times to monitor market conditions. This not only leads to inefficient allocation of resources but also creates unnecessary stress and strain.



Why Are We Afraid To Accept Losses?

Many traders perceive losses as personal insults or signs of incompetence. This approach not only leads to significant stress but also impacts the maintenance of a trading journal. Subconsciously, we tend to equate a trader's journal with a school diary. Just like receiving a "D" grade at school made us hesitant to show the diary to the teacher, we adopt a similar mindset in trading. Conversely, we eagerly anticipate the teacher rewarding us with an "A" grade. However, in trading, there is no teacher to scold us for a "D" grade. Yet, the behavioral pattern remains ingrained, and our subconscious continues to deceive us. We convince ourselves that if there is no "F" grade in the journal, it's as if it doesn't exist, and there won't be any consequences for it.

The stop loss is a vital tool that gives traders an edge in the market by allowing them to manage risk effectively.

It is essential to approach a losing position with complete acceptance. Whatever has transpired is in the past and cannot be changed. Your focus should be on recording the trade in your trading diary, allowing for future analysis and drawing valuable insights. Remember, prioritizing capital preservation is far more crucial than denying the evident or attempting to prove oneself to the market.