Most traders would probably agree with the proposition that the hardest thing to get right in Forex trading is the placement of stop losses and take profit levels. A great deal of trading education and material that is shared with learning traders focuses on finding the right places to enter trades. Let’s be clear that entry is very important, but good trade management – i.e. using the right stop losses and take profit levels and changing these levels appropriately as the trade progresses – is equally important. It is very possible to be right about entries consistently and to still lose money overall. Assuming that you have a good entry strategy, how can you best exploit it? Is there a better, more dynamic methodology than just setting stop loss and take profit levels and walking away? There is, although this can be challenging as “set and forget†methods are psychologically easier to implement.
Dynamic Stop Loss
It is a good idea to never trade without a hard stop loss, i.e. one that is registered within your broker’s platform for execution, unless you are using extremely small position sizes. This is an essential part of controlling risk in Forex trading.
The stop loss may be made dynamic, as a way to lock in profits on a trade that progresses profitably. However, the stop losses should only ever be moved in the direction of reducing losses or locking in profit. In this way, a trade that performs well will end up giving some profit. This is also a good way to let a trade die a “natural†death, instead of aiming for profit targets that can be very hard to predict.
One example of a dynamic stop loss is the trailing stop. This may be set at a particular number of pips or based upon some measure of averaged volatility. The latter option is the better choice.
Another example would be moving the stop loss level periodically so it is just beyond major highs or lows or other technical indications. The beauty of this is that the trade stays alive as long as it is going well. When a long trade starts to break down through key support levels, then this type of stop is hit and ends the trade. This method is a way of letting winners run, while cutting losers short.
