Since the stop loss subject is extensive, involving many other topics, I will discuss only the initial stop loss that is necessary to control the losses if the trade will not be successful. Let us now see the four best stop-loss techniques applicable to many different trading systems.
Stop based on volatility (Volatility Stop)
Imagine a market where the candles have a width of 120 pips. It makes sense to put a stop loss at 5 pips away from your point of entry? Unless your strategy is not a form of super-extreme scalping the answer is No. If you get into a certain direction you have to ask if you're giving the market time to develop in your favor, without which, insignificant fluctuations close down your position prematurely. On the other hand, one stop too distant, will lead to losses that you can hardly recover. Looking at the average volatility you can understand, therefore, where it makes sense to place the stop loss based on the breadth of recent market movements. Thanks to the ATR (Average True Range) indicator you can easily obtain the volatility of the last N bars. The value obtained will be the basis for choosing your stop.
Stop based on support and resistance
Another powerful way to set the initial stop loss is based on what is the reality of the graph. Markets will offer a wealth of information: the prices are clearly moving in one direction? The prices are moving wildly within a certain range? Through observation you can have a number of ideas to find a price level above which we have little hope that the trade turns in our favor in the short term, or not to proceed further against us by exposing them to excessive drawdown.
Stop based on indicators
Some traders, lovers of technical analysis, tend to base every aspect of their trading on the results offered by various indicators: list the various methods used would be impossible, so I will limit myself to one example. A fairly common technique is to enter and exit a trade based on the crossing of two moving averages.
Stop fixed to N pips
The stop loss is set at a certain number of pips from the opening portion of each position. This is an ordinary technique, where the distance is fixed and equal for each trade, such as 20 pips. You should exclude the idea of ??using a stop of this type since there are important gaps.
First, it disregards the fact that volatility varies over time and is never fixed. Generally, the shorter the timeframe used, the greater the possibility that the volatility changes. Secondly, it is not connected to the reality of the markets: it does not consider resistance and support or other guidelines which may provide an assessment of the graph.
The only people who I think can use a fixed stops are experienced traders who intend to work with a very short term scalping technique, while maintaining a very tight stop loss.
Choosing an option or the other, would simplify what cannot be simplified. Every trading system, and each trade is a special case.
I have tried to provide meaningful tools to check your initial stop loss: making good use of them can greatly improve your trading.
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Article Written By: WolfingerStain
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