How to place a Stop Loss and Take Profit?
What is a Stop Loss?
It is a pending order that helps limit possible losses during trading. A Stop Loss is automatically triggered when the price reaches a pre-set level. This is the level you define beforehand as the maximum allowed value for a price movement in an unfavourable direction.
What is a Take Profit?
This is the same as Stop Loss but works in the opposite direction. It automatically closes the position with the desirable profit set in advance.
Why use them?
Stop Loss and Take Profit exist in the terminal for a reason. They are essential tools for risk management. Suppose you know how to set Stop Loss and Take Profit when opening positions competently. In that case, you will significantly reduce the probability of situations when entering a deal takes place by chance and has an unpredictable result.
Stop Loss allows you to limit the possible loss on a position before it is even opened. Especially in moments of anticipation that the price is about to reverse and compensate for all losses of the position. Stop Loss helps the trader to ensure that hope of a trend reversal doesn’t turn into self-deception and last longer than the basic principles of money management allow.
All this helps traders stay under the strategy rules and manage the funds more cautiously.
When is it better to use Stop Loss and Take Profit?
Pending orders are helpful for short-term margin trading with the use of technical analysis (indicators, trend lines, support and resistance levels). Specialized analytical tools help quite accurately calculate an entry point, an amount of profit, and possible losses.
While false alarms are possible in the short term, in medium and long-term investments Stop Loss and Take Profit are not as effective.
How do I define Stop Loss and Take Profit levels? How do I set them when opening a position?
We open a chart of an instrument and examine the data: the current price, trends in different timeframes, and how soon the direction may change. So, we open a position.
Where to place pending orders? There are many approaches to the calculation of the Stop Loss and Take Profit. Here are the most popular ones:
Using percentages or points. You forecast how much the price will change and set the corresponding values. For example, if you expect a price increase of 10 per cent or 100 points, that future level is your Take Profit. A Stop Loss can be placed 10% (or 100 points) below the current price.
An example: currency pair GBP/USD.
We know that during the last week, the price of this currency pair passed on average about 100 points daily. Since we are novice traders and are careful with our deposits, we open a Buy position with a minimum equal value of SL and TP.
Our entry price is 1.17674.
For Stop Loss, we will set 100 points below our entry price: 1.17574.
For Take Profit, we set 100 points above the entry price: 1.17774.
We open a Buy position and set SL and TP equidistant from the Entry Price for we believe the price may change by 100 points in both directions.
Using the risk/reward ratio will complement the first method. Stop Loss and Take Profit don’t have to be at the same distance from the entry price. Ratios of 1:2, 1:3, and even 2:1 are common among traders.
The only "correct" ratio of Stop Loss to Take Profit doesn’t exist! Choose the one that fits your strategy and brings the best results.
An example: currency pair EUR/USD.
We choose a Stop Loss to Take Profit ratio of 1:2 so that two Take Profits cover one Stop Loss. We assume that the price will rise from 0.99249 to 0.99349. The data for opening a Buy position will be as follows:
Entry Price: 0.99249.
Take Profit will be 100 points above our Entry Price: 0.99349.
At a ratio of 1:2, our Stop Loss should be twice as close to the current price, i.e., 50 points lower.
Our Stop Loss will be placed at 0.99199.
We open a Buy position and set SL and TP at an uneven distance from the Entry Price using risk\reward ratio of 1:2.
Using technical analysis: horizontal levels, signal candlesticks or candlestick patterns (like "Harami"), indicators (like a moving average), support and resistance lines, trend lines, etc.
The core principle is the same for all methods: we put a Stop Loss slightly below or near the passing line (if it is a support line, a moving average, or a candlestick); Take Profit — slightly above (if it is a resistance line or a local maximum).
An example — currency pair is USD/CAD.
We’ll use one of the most common tools in technical analysis, support, and resistance lines. We draw them on the W1 time frame (last week): support is at 1.28290; resistance is at 1.30630. On the M1 timeframe (last month), we’ll see that the resistance line was not broken earlier, but the support was even lower (1.27361). This proves that the current trend is bearish. Therefore, we open a Sell trade.
Please note: when opening a sell trade, the Stop Loss will always be higher than the Entry Price and Take Profit!
Entry Price: 1.30218.
We put Stop Loss near the resistance level: 1.30630.
Take Profit at the support level: 1.28390 and even lower 1.27361.
We open a Sell position and set SL and TP near the support/resistance levels.
But I can trade without Stop Loss and Take Profit, right?
You can close your trades successfully without pending orders. They are unnecessary when you follow the price movement and react to the sudden surges instantly. There are also trading strategies that don’t require Stop Loss.
Conversely, if monitoring charts is not for you, placing a Stop Loss and Take Profit order will make your trades on the financial markets more predictable and automatic.
Remember: losing trades are not bad in and of themselves. It is much better to close several positions with a predetermined loss in the long run, which doesn’t affect the overall situation than to risk your entire deposit. Trade сompetently!
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