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Mastering the Art of Stop Loss

  • #1
  • First Post: Aug 24, 2011 9:06pm Aug 24, 2011 9:06pm
Hi,

Countless threads on Forex Factory offer trading strategies. Some good others not so good. I think this is about time we start threads on trading tactics that can go with one's trading method.

Setting Stop Losses is one of the arts require mastering.

Following is some food for thought. You may like to take a bite before posting

1. What should be ratio between SL and TP and why? (Logic of whatever is recommended)

2. Where to place sls and why?

3. How to scale down or close a trade?

4. Cons and pros of SLs

5. SL hunting...... Is it myth or reality?

6. Traiing stops
The Thief of Wall Street
  • #2
  • Aug 25, 2011 8:40am Aug 25, 2011 8:40am
Quoting Chicky

1. What should be ratio between SL and TP and why? (Logic of whatever is recommended)
I'll address this one. The idea that one should have a pre-arranged ratio is one of the worst and most costly ideas in trading. Trading with a set-stop loss, let's say 40 pips, is very limiting. It also gets people into trades where their SL is almost guaranteed to be hit.

The ratio is determined only after the fact, not before. On some trades you might only make 1-.5 while on others you could make 1-20. This is the idea of taking what the market offers. Too many are trying to impose on the market what they think a good trade should yield and where price shouldn't go. It's such a simple concept, yet all the bullshit in the business sucks people into silly, irrational thinking.

At the end of the year, the trade ratio will show if you made a profit, but it's after the fact. As long as one is capable of pulling out a few massive winners a year, then that's all they need to overcome the low ratio trades.
  • #3
  • Aug 25, 2011 2:10pm Aug 25, 2011 2:10pm
Quoting Dopey
I'll address this one. The idea that one should have a pre-arranged ratio is one of the worst and most costly ideas in trading. Trading with a set-stop loss, let's say 40 pips, is very limiting. It also gets people into trades where their SL is almost guaranteed to be hit.

The ratio is determined only after the fact, not before. On some trades you might only make 1-.5 while on others you could make 1-20. This is the idea of taking what the market offers. Too many are trying to impose on the market what they think a good trade should yield and...
Very good point.

Let's see how we can apply this concept of stoploss. I think one way would be to:

1. Enter trade with a very small position (lets say Sell 1/10th of usual positon) but have a generous stoploss lets say 60 pips for a profit target of 100 pips.

2. Let the market form or confirm a reistance and wait until pa starts respecting that resistance.

3. Add rest of the positions and narrow sl down to few pips above that resistance.

Does it make sense?
The Thief of Wall Street
  • #4
  • Aug 25, 2011 2:12pm Aug 25, 2011 2:12pm
Quoting Chicky
Hi,

Countless threads on Forex Factory offer trading strategies. Some good others not so good. I think this is about time we start threads on trading tactics that can go with one's trading method.

Setting Stop Losses is one of the arts require mastering.

Following is some food for thought. You may like to take a bite before posting

1. What should be ratio between SL and TP and why? (Logic of whatever is recommended)

2. Where to place sls and why?

3. How to scale down or close a trade?

4. Cons and pros of SLs

5. SL...
I may be overthinking things but I personally find all of these questions cannot be answered without the concept to profit being defined.

Allow me to drive the point home

Question 1,2,3,6 : are we trend trading, range trading, or counter trend trading.. just one question that concerns all of these questions.. trends you want to get a large winner while limiting many losing trades when its not a trend.. counter trend you have to be ready to stoploss if trend continues.. etc etc

4. Stoploss Pros.. it stops you from losing all of your money in unexpected events and also limits risk ahead of time.. Cons: it is hard for many people to figure out the best place to put there stoploss.. but knowing the proper placement for the traded strategy leads only to pros...

5. SL hunting is the reality.. first you have some market makers who hunt with their ability to create the market.. you also have the largest traders stop hunting and pushing prices around... you also have stop hunting in the sense that some people only enter trades to get in the market at areas where stop loses are clustered..
  • #5
  • Aug 25, 2011 2:24pm Aug 25, 2011 2:24pm
Quoting newyear498
I may be overthinking things but I personally find all of these questions cannot be answered without the concept to profit being defined.

Allow me to drive the point home

Question 1,2,3,6 : are we trend trading, range trading, or counter trend trading.. just one question that concerns all of these questions.. trends you want to get a large winner while limiting many losing trades when its not a trend.. counter trend you have to be ready to stoploss if trend continues.. etc etc

4. Stoploss Pros.. it stops you from losing all of your...
Newyear, thanks for posting.

The intention is to keep this thread a general discussion on Stoplosses. These question were posted just to trigger some thoughts and give something to talk about to posters. These are just few random questions with no objectives other than providing just some Food For Thought.

Coming back to your post:

Do you suggest if one is trying to catch a big move should make several attempts in the trend direction with tight stoplosses?

and

The one who is counter trending should also keep tight stop loss but also have a very small take profit?

and

A trader looking for trend reversal should follow the trend trader's method of stoploss, that is, much much gain for a small loss but in many attempts?
The Thief of Wall Street
  • #6
  • Aug 25, 2011 3:04pm Aug 25, 2011 3:04pm
Quoting Chicky
Newyear, thanks for posting.

The intention is to keep this thread a general discussion on Stoplosses. These question were posted just to trigger some thoughts and give something to talk about to posters. These are just few random questions with no objectives other than providing just some Food For Thought.

Coming back to your post:

Do you suggest if one is trying to catch a big move should make several attempts in the trend direction with tight stoplosses?

and

The one who is counter trending should also keep tight stop loss but...
Cool, I'll contribute some stuff to stop loses unrelated to your initial questions in the future possibly..

With regards to what you just asked,

TREND TRADING: I don't recommend tight stop losses.. what I was considering is that trend traders need to withstand many loses due to being wrong about the trend or having the trend end shortly after hoping in it... (seems to be the theme if you look around FF) so they are hunting for those few and far big trends that they catch a large movement in favor.. (thus you need a strategy for profiting on those few and far big runners..)

but anyways since were focusing on SL, so I say for trends you need a volatility stop, you will want your stop to be hit less than 1% of the time due to regular fluctuations.. so moving your stop loss up at a higher time frame well under the average volatility (you also have to account for pull backs so if your on a daily time frame I'd expect a 3-5 day pull back.. so probably a stop 6 times the ATR

(thats just a swing trade type of situation.. if you want to just scalp portions off the main trend this would be a whole different topic)


COUNTER TREND: here is for the tight stops.. you look for the huge surge in price that stops way to overvalued and the trend trader and trend scalpers are all waiting to get in at a more acceptable price.. thus a tight stop incase you are initially wrong.. and then a constant effort to get to break even fast and safe.. the trend could take off at any second but again usually after the pullback so you are just in a race against time to lock in as much as possible


A trader looking for trend reversal: This sounds like a horrible idea.. I would say forget looking for reversals.. they wont be right often.. and when they are they will screw up capitalizing on that.. I would only recommend a counter trend trader have a strategy to trade trends if they get super lucky and catch a reversal.


anyways this is just how I would trade it.. I am not going to sit here and ever say this is how it must be done.. like many I've fucked with most styles of trading
  • #7
  • Edited 3:22pm Aug 25, 2011 3:05pm | Edited 3:22pm
Let me add one more post to take this thread further after moderators' approval of this thread that required changing its title from "Stop Loss" to "Mastering the Art of Stop Loss" and I like this new title. Thanks for this improvement.

My trading was good, up until recently, however, wanted to switch to longer term trading for a variety of reasons. That required changing some aspects of my short-term trading method, stoploss being the most important. In last one month, was amazed to note how greatly a proper stoploss affects one's profitability.

My new stoploss calculation uses basics of horse race book-making principles. It is still under-test.

A book-maker decides opening rates for the first favorite horse. Let's say 2/10. that means for every $10 the punter would get $2 winning (total $12) if first favorite wins. Since only one horse will win and all the others in that race will lose, the bookmaker will get $10 if first favorite loses, therefore the book-maker allocates part of that money (let's say $8) as winning amount for the second favorite. The rate for the second favorite may therefore be 8/3 (if second favorite wins, a person betting $3 on second favorite will receive $11). If there are only two punters, one betting $10 on first favorite and other betting $3 on second favorite,that would mean if first favorite wins the book-maker has a total collection of $13 and total payout is $12. However, if second favorite wins the race the total collection would still be $13 but payout would be $11. Then there is third favorite and amount of betting varies on horses as the time goes by ............. book-maker keeps on changing the rates in such a way that no matter what happens in race (including dead-heat)his collection is always more than the pay out................ if not for one particular race but atleast for all the races in that race day.

Therefore my stoplosses are just like rates offered for first favorite, that is, 2 pips for a profit of 10 pips. Now once this trade has been entered, I have second and third favorites. The good thing is that I am not exposed to variation in betting amount by different punters and therefore calculation is much simple. Further, its not the bloody horse and the rider I am betting on, my favorites come from economic and technical analysis.
The Thief of Wall Street
  • #8
  • Aug 25, 2011 3:22pm Aug 25, 2011 3:22pm
Quoting Chicky
Let me add one more post to take this thread further after moderators' approval of this thread that required changing its title from "Stop Loss" to "Mastering the Art of Stop Loss" and I like this new title. Thanks for this improvement.

My trading was good, up until recently, however, wanted to switch to longer term trading for a variety of reasons. That required changing some aspects of my short-term trading method, stoploss being the most important. In last one month, was amazed to note how greatly a proper stoploss affects one's profitability....
Ps - Corrected some typos in figures above.
The Thief of Wall Street
  • #9
  • Aug 25, 2011 3:25pm Aug 25, 2011 3:25pm
Quoting newyear498
I may be overthinking things but I personally find all of these questions cannot be answered without the concept to profit being defined.

Allow me to drive the point home

Question 1,2,3,6 : are we trend trading, range trading, or counter trend trading.. just one question that concerns all of these questions..

...but knowing the proper placement for the traded strategy leads only to pros...

5. SL hunting is the reality.. first you have some market makers who hunt with their ability to create the market.. you also have the largest...
I agree. Some strategies require tight stop losses. Making them generous would be conterproductive. Other require wider stoplosses for optimal performance. Still others are better off decided based on current market conditions which could not be known at the time of placing the trade. A few have evaluated their chances and the conventional SL will not help their strategy. No one method fits all. 'knowing the proper placement for the traded strategy..'

Stop hunting: If a broker uses all those plug-ins we have heard of then they can stop hunt. But I honestly think most traders should re-evaluate their strategies and make allowance for spread, slippage and possible widening of spreads in abnormal market conditions. Its remarkable that I have rarely heard a swing trader complain about stop hunting as their stops are usually well placed away from accident zone. Food for thought.

King.
  • #10
  • Aug 25, 2011 4:21pm Aug 25, 2011 4:21pm
Yes, I support the idea that the proper stop loss should be put as a function of the traded policies. I think the stop loss has to do two things:
1. The most important thing for me to do a stop loss is to protect my assets from unforeseen circumstances or any other jumps and force majeure.
2. On the other hand it must life be placed in an area where not to get stopped for a profit.

And it turns a little controversy as to not lose and so to lose only the part that you have planned.

It is very difficult to talk about the correct location of stop loss. I think it comes with experience to put in a place where there will be stops at the same time there is a good prospect for profit. Again, the location of stop loss based on your inputs, so different strategies for your stop loss.
  • #11
  • Aug 25, 2011 4:25pm Aug 25, 2011 4:25pm
NewYear498's General Guideline Regarding Where a Stop Loss Should be Placed in all Situations.

The Stop Loss: Should be placed in an area where regular movement in your favor triggers the stop loss rarely... Thus when your stop loss is triggered you can conclude there is a high probability you were on the wrong side of the market.




Foot Note:

1. "movement in your favor triggers the stop loss rarely..." you cannot have movement in your favor never trigger a stop loss.. regular fluctuation will always threaten your position.. you can only limit the times those fluctuations hit you.

2. "Thus when your stop loss is triggered you can conclude there is a high probability you were on the wrong side of the market." Sometimes we do not always receive clues that we are on the wrong side of the market as our trade progresses.. if you do receive clues then proceed to take a small profit/loss rather than accepting a stoploss. However when no clues and/or unexpected events present themselves, you will stop loss.

3. The stoploss represents your maximum risk.. it is a strict line the the sand as to the % of your account you will accept to lose per trade. Consider a risk management attitude that fits your style of trade(ie Conservative, Aggressive, Super Aggressive).

4. There is no such thing as not using a stop loss, if you do not set a stoploss than you have accepted foot note 3's risk management as a "Super Aggressive Trader". A margin call will be what stops your loss.
  • #12
  • Aug 25, 2011 5:39pm Aug 25, 2011 5:39pm
The most dangerous, I repeat, the most dangerous and damaging thought I ever had in trading is the fear that price will continue in my favor after hitting my stoploss. This thought alone cost me a lot of money.

I then decided not let this thought pollute my mind. If it hits the sl, let it do that. Once I made this part of my trading policies, it triggered several ideas how to minimize such occurances.

One such tactic is to enter where a bounce is most likely, on the bouce take 50% off the table and if possible widen the stoploss or bring it to break-even or leave it there, depnding how much is the risk involved and what fits in my risk calculation. Sometimes I bring sl to BE without closing 50% of the position if its a strong bounce and other conditions also support that action.
The Thief of Wall Street
  • #13
  • Aug 25, 2011 5:54pm Aug 25, 2011 5:54pm
Quoting Chicky
The most dangerous, I repeat, the most dangerous and damaging thought I ever had in trading is the fear that price will continue in my favor after hitting my stoploss. This thought alone cost me a lot of money.

I then decided not let this thought pollute my mind. If it hits the sl, let it do that. Once I made this part of my trading policies, it triggered several ideas how to minimize such occurances.

One such tactic is to enter where a bounce is most likely, on the bouce take 50% off the table and if possible widen the stoploss or bring...
Yes, I also had an idea about the manipulation of stop-loss. I was thinking about expanding the stop loss as an option and I tried to extend the stop-loss but close half the position at a loss at 50% reach distances on the road to stop loss. Thus, if we end up with a stop loss has been achieved, we lose less, but to make a profit we already have to go long distances. But it did not give me the expected result, and subsequently I dropped the idea. Now I use a regular stop loss in accordance with my MM.
  • #14
  • Aug 25, 2011 6:51pm Aug 25, 2011 6:51pm
TRAILING STOP

My research into stops has shown me that trailing stop is not a good idea.

Consider the following:

A trader makes a trade with 100pip stop loss but keeps TP as as trailing stop of 100pip.
The trailing stop only kicks in when he is in profit by 101 pips.
Now if the trade ran straight south say to -101 pips against him, his SL trigers immediately at -100 pips. Lets say the trade reversed immediately after this and never returned to that stop loss again. Meanwhile he has lost full blast.

Now the opposite side with a trailing stop in place instead of hard take profit.
The trade goes directly to the take profit zone say 101pips. The trailing stop kicks in at 1 pips. For comparism's sake let's say the trade thereafter reversed and never retuned to that TP zone. He will have to make do with 1 pip unless he manually stops the trade somewhere on its way down.

The same scenario but one bags full loss the other almost no profit. Infact you have to perform a feat of 200 pips to safely bag 100 pips due to the trailing stop.

Another situation If the loss hovered around -101 say criss-crossing there 20 times before reversing you have taken the loss at first pass. But in profit situation, even if price hovered around there 20 times before reversing you are still are at only 1pip profit. You reduce your own profit with your own hands.

In the above scenario you are always better off setting a hard TP at either 100 or 200 pips. You catch the profit at the first time it ever touches that price!

The alternative argument that it will enable you catch a big runner fails when you check how many time you are thrown off the trend due to the trailingstop kicking in with only small profit before the trend resumes. And you have to constantly work harder by 100pips.

I know the 100 pips is large for a trailing stop but it helps fully appreciate the disadvantage you delibrately bring on your self by utilising a trailing stop.

My 2 cents.

King.

  • #15
  • Aug 26, 2011 4:58am Aug 26, 2011 4:58am
Quoting kingsurfer
TRAILING STOP

My research into stops has shown me that trailing stop is not a good idea.

Consider the following:



You are talking about one type of trailing stop, a pip by pip one. To stay with a trade for a long time in order to let it develop and turn into a massive winner requires a trailing stop of some sort. Obviously, some traders do this successfully, but you can bet they're not using what you've proposed.

A volatility trailing stop works differently and much better. Dig up the Chandelier Stop to see how it works.

  • #16
  • Aug 26, 2011 7:15am Aug 26, 2011 7:15am
As day trading strategy, I use hard stop for protection. However if the market is not showing a sign of continuation in my direction I close before my stop gets hit. I tend to give more room when the trade goes my way to maximize profit.

It all comes down to experience, knowing when to get out. The more you study the easier it will be to place these.

S.
  • #17
  • Aug 28, 2011 5:03am Aug 28, 2011 5:03am
I always enter trades with a set number of pips (ROI) profit target and use a hard stoploss to give a minimum R/R of 1:1.5. These trades are the ones where I have an expectation of reaching my target. If I have doubts, I do not take the trade.

Depending on the stratagy I employ I my take 50% profit at my target and let the other half ride, moving my S/L to BE. On this occasion I would have entered the trade with a double lot.

I trade to a plan. I don't deviate from my plan. My overiding target is risk management. I'd rarther a loss of oppotunity than a loss of capital.

AJM
I know absolutely everything, unfortunately 99.99% of what I know is wrong!
  • #18
  • Aug 28, 2011 7:33am Aug 28, 2011 7:33am
To answer each of chicky's questions in turn, from my own perspective.

1. What should be ratio between SL and TP and why? (Logic of whatever is recommended).
I read this as really saying "What should be the ratio between my losses and my winnings?"
Using non-oppotunistic strategies (my bread and butter trades), I win about 75-85% of my trades. These trades are taken on the M30 and 1H timeframes using the four major pairs: EUR/USD, GBP/USD, USD/JPY & USD/CHF. My take profit target is a 20 pips. My stop loss is about 13 pips (taking the spread into account), dependig on which pair is being traded.

2. Where to place sls and why?
The stop loss is placed at a point that in my experience using these strategies gives me a R/R of greater than 1:1.5. Sometimes I am stopped out, other times I am stopped out but the price then bounces and goes in the direction of my trade. Tough, but I know this will happen and have allowed for it in my loss percentage.
The maxim is "loss of opportunity is better than loss of capital".

3. How to scale down or close a trade?
Most trades it is a set TP. Other times, on oppotunistic trades I will enter with a double lot (on flags say), with the intention of closing half the trade at 20 pips profit and letting the other half ride. My initial stop loss would be a couple of pips on the flag pole side of the channel trend line, at this point I would move my stop loss to my entry point to protect my gain. If this was traded on a flag pattern I would expect the price to continue to half the length of the flag pole and close out at that point. But even if it were to go pear shaped before then I have protected my position (and my profit).

4. Cons and pros of SLs
Allows me to stay in control of my trades. My maximum loss on a trade is always known in advance and is acceptable to my money management strategy.
Sometimes get stopped out on a trade that eventually goes on to a winning position. This happens, allow for it in your strategy and live with it.

5. SL hunting...... Is it myth or reality?
Even with my tight stop losses I don't believe it happens to me, I did believe it a one point but then learned I wasn't allowing for the spread in my trades properly. By this I mean that if I was selling the eur/usd and my stop loss is set at a price of, say, 1.234 but I was stopped out at 1.232, the price never rising above this. Add the spread to the 1.232 and that's the reason I was stopped out, no dodgy dealing by the broker, just my lack of knowledge at the time.

6. Traiing stops.
Useful, but I would only use on larger timeframes, say following the trend over a long period on the daily (if I were to ever do such a trade). I would have to allow for the maximum daily movement and then already be in profit to negate any drawdown. Even when news trading with positions open over several days I only use a stop and a target price.

AJM
I know absolutely everything, unfortunately 99.99% of what I know is wrong!
  • #19
  • Aug 29, 2011 4:23pm Aug 29, 2011 4:23pm
Quoting Dopey
I'll address this one. The idea that one should have a pre-arranged ratio is one of the worst and most costly ideas in trading. Trading with a set-stop loss, let's say 40 pips, is very limiting. It also gets people into trades where their SL is almost guaranteed to be hit.

The ratio is determined only after the fact, not before. On some trades you might only make 1-.5 while on others you could make 1-20. This is the idea of taking what the market offers. Too many are trying to impose on the market what they think a good trade should yield...
This is very true. Setting stop-loss and trailing or setting your target should be done in relation to the price, not your ratio. The market doesn't care about where you think the price will go. Sometimes a good trade is a 1:0.5 with great accuracy. People who set their trade to 1:3 risk reward ratio before hand will most likely get their stop-loss hit just based on probability alone.
  • #20
  • Aug 29, 2011 6:10pm Aug 29, 2011 6:10pm
I'd have to disagree with both Dopey and ekiden on this.

A trader's first priority is to protect the money in his account. If you have to determine ratio or profit or stop lose after the fact, you are not in control of the trade.

The main tools for this are correct trade entry point and a stop loss.
If you are entering a trade, your system, experience and probably a bit of instinct shoud tell you that the entry point is correct. You should know the amount of pips, percentage or whatever you are expecting to take as profit. If you are sure of this, take the trade. If you are not sure of this then you should not be making the trade. You may as well spin a coin and say head's I buy, tails I sell.

Your risk / reward ratio tells you how far from your entry point you need to set your stop loss to give you protection from a bad trade. We can't predict the market but we can at least take an educated guess.

If you are entering a trade with no idea of your exit strategy except to make as many pips as possible and setting a hundred pip stop loss and getting stopped out, you are doing something drastically wrong.

As ekiden says "Setting stop-loss and trailing or setting your target should be done in relation to the price (action)". I agree, but my reading and understanding of what the price action is telling me is what enables me to set my targets. The experience comes in being able to read and understand the infomation on the chart, decide on my course of action and for the price to get where I am prepared to enter.

On a different and unrelated thread, but useful for an example, is a system on breakouts. This uses boxes for showing various parts of the PA indicating different things, with the intention I assume, of determining where the breakout will occur. My reading of one of the last charts told me that if they'd just apply a few of trendlines on instead, it would show them the PA is moving into a wedge with an underlining support level. From that infomation you should be about 99% sure of the direction of the breakout and the approximate point it will do so. Yor stop loss will be a couple of pips beyond the S/R line on the opposite side of the expected breakout and entry point 5 pips after the breakout, if the momentum is low, wait for a new candle.
So from this I have chosen my entry point and my stop loss position, before entering the trade. Profit is easy, 20 pips and if momentum is good I'd let half of it ride and relocate stop loss to break even.

Plan your trade, don't rush into it. Be prepared to reject a trade even if your system says it is perfect, unless "you" are certain.

AJM
I know absolutely everything, unfortunately 99.99% of what I know is wrong!
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