Ways to Place Stop Losses

[RichardCox 10]

The placement of stop losses is arguably the most critical component of any trading strategy, as this is the only direct way of protecting your account balance from major shifts in market volatility. Many new traders make the mistake of focusing only on profits, but many experienced traders will actually contend that the reverse is true. Either way, the only way to build on your trading account is to shield your trades as much as possible, and using protective stop losses is the best way of doing this.

 

Major difficulties can be encountered, however, when traders determine where exactly those stop losses should be placed. If stops are placed to far away, excessive losses could be encountered (and, by extension, removing some of the benefits associated with using stop losses in the first place). Conversely, if stops are placed too close, a disproportionate number of trades will be closed at a loss. This can be especially disheartening when prices later reverse and create a scenario where your trades would have been profitable in your stop loss placement had been better positioned.

 

Finding a Broad Approach

 

For all of these reasons, stop loss placement is a delicate practice. To further complicate things, there is a large variety of very different ways to determine where trades should be closed in order to prevent further losses (your stop loss level). Stop losses can be either defined or methodical, but it is not necessary to use a single method for all market situations. The most successful traders are the ones that are able to assess the broader environment and adapt their trading plans accordingly.

 

The first element to consider is your initial position size. Many traders will scale into positions (rather than placing their entire trade amount at one level). Then, if prices work against you, it is possible to add to the trade size and improve on the average price paid for the trade. In these cases, stop losses will generally be farther out than if traders place the entire position size at once because the trader is already operating on the assumption prices might continue to move in an adverse direction.

 

Furthermore, short-term traders are usually better off exiting trades on impulsive moves, whereas long-term traders tend to look for signs that the underlying trend has reached completion. Most strategies recommend that traders never risk more than 5% of their account size at any one time, while others with a more conservative approach will take this number down to 2-3%. Here, we will look at some of the methods that can be used to set stop loss levels and protect your trading accounts in the process.

 

Hard Stops

 

Traders determine places for stop (defining an exit point) before any trades are actually place. This is helpful because it allows you to determine your parameters before you are emotionally invested (and potentially irrational) if prices start to work against you. The most basic approach to placing stops is the “Hard Stop,” for which the trader set an exact price level, and then exit the trade is markets reach that region.

 

The main idea here is that your trading strategy suggests there is little reason to believe prices will rise (for short trades) or fall (for long trades) to this area before your profit target is reached. Then, if it does turn out that prices hit the stop loss, either a major change is present in the market or your initial analysis was simply wrong. In both cases, it will be wise to close your trade at a loss and look for new opportunities.

 

There are many ways to determine how to place a Hard Stop. One method is to use the Average True Range (ATR), which calculates the average of past highs and lows to determine a projected range for your chosen time period. Assets with high volatility have a wider ATR, while assets with low volatility will have a smaller ATR. Since it is unlikely prices will travel outside this projected range, stop losses can be placed above the projected high (in short positions) or below the projected low (in long positions).

 

Trailing Stops

 

A more active approach is to use trailing stops. Here, traders will move the stop loss higher (for long positions) when prices move in a favorable direction. In short positions, stops would be moved lower once the trade turns profitable. For this reason, Trailing Stops are also called profit stops but this approach requires continuous monitoring of your position.

 

This approach can be conducted manually or automatically. Most trading stations will allow traders to automatically trail the stops. So, for example, if we start with a stop loss that is 50 points away from the price, we can set a 25 point stop loss interval, which will move the stop loss higher every time the market moves 25 points in our favor.

 

(Chart Example 1)

 

Manual stops require more analysis but can be better tailored to specific market conditions. In the first charted example, assume we take a long entry in the at the black line, with a stop loss below the most recent support (the first red line). As prices move higher, we continually move the stop loss higher (each successive red line). Prices reach a top, reverse and hit the profit stop slightly below. In this example, the trader would need to actively monitor price activity and move the stop loss higher as the trade works into profitability.

 

Parabolic SAR

 

A variation on the trailing stop can be found with the Parabolic SAR approach. This indicator works well when prices move quickly in the direction of your trade, and will quickly spot out a trade when prices reverse. On the negative side, since the Parabolic SAR reacts so quickly to price trend changes, there will be many instances where you are stopped out of a postion before the full trend has run its course. The second charted example shows how a trader could exit a position using the Parabolic SAR tool.

 

(Chart Example 2)

 

In the example short trade, the Parabolic SAR is above prices, indicating a bearish bias for the trade. Once this scenario changes, it is time to exit the position as market conditions are reversing.

 

Donchian Channels

 

Other methods to set stop loss levels can be seen with Donchian Channels and Pivot Points. Donchian Channels will give traders a price action envelope that can be used to determine bullish or bearish bias in a currency. The next charted example shows traders in long positions can set stop losses using this tool. Essentially, upward breaks of the upper band signal a bullish bias, while downside breaks of the lower channel signal a bearish bias. In this example, the long trade is initiated when prices break the upper band, stops will then be placed below the lower band.

 

(Chart Example 3)

 

Conclusion

 

The placing of stop losses is critical for traders looking to maintain positions until trends have run their course, while at the same time protecting a trading account against adverse market volatility. There are many different ways traders can set their stop loss levels but it must be remembered that no trade should be executed without an exit point in mind. The wide variety of stop loss approaches might seem daunting, as it makes it difficult which method to use regularly. But this should, in fact, be viewed as a positive, as it means there are many different methods that can be used for different types of trading environments.

[bakrob99 11]

Thanks for your article but you missed the method I use for stop placement. It is the method which traders are told NOT to use. A PRICE STOP.

 

The reason I use this method is that I have a setup which count son momentum and after recording and analyzing well over 2000 trade setups in realtime, it is quite clear that some trades work immediately with very little MAE (adverse excursion - aka heat) and others don't. They chop around and may or MAY NOT eventually go in your favour. I have found that I want to stay in the working trades and GET OUT OF the chop em up and go nowhere trades. So as an example - even if structure would suggest say a 10 or 12 tick stop is needed in the ES, I enter and exit if 6 ticks of adverse excursion is experienced. NQ is 12 ticks (max 15), EC is 8-10 - (max 14), TY (ten year) is 4). (The range varies according to the setup being used, ie. the reason for getting into the trade).

 

Now the BIG ADVANTAGE to this is I can increase (literally DOUBLE) my size and the winners are much larger - the losers controlled.

 

You might say - well, you will be STOPPED OUT of trades which end up being winners by doing this. Yes, that does happen but my experience is that it happens less than 10% of the time and I am much better off by missing out on some - but staying in on the ones that work right away.

 

Certainly, the above applies for day time frame trade entries which I expect to exit between 5 - 30 minutes. I would not do this for position trades, overnight or longer timeframe opportunities.

[RichardCox 10]

  bakrob99 said:

Thanks for your article but you missed the method I use for stop placement. It is the method which traders are told NOT to use. A PRICE STOP.

 

The reason I use this method is that I have a setup which count son momentum and after recording and analyzing well over 2000 trade setups in realtime, it is quite clear that some trades work immediately with very little MAE (adverse excursion - aka heat) and others don't. They chop around and may or MAY NOT eventually go in your favour. I have found that I want to stay in the working trades and GET OUT OF the chop em up and go nowhere trades. So as an example - even if structure would suggest say a 10 or 12 tick stop is needed in the ES, I enter and exit if 6 ticks of adverse excursion is experienced. NQ is 12 ticks (max 15), EC is 8-10 - (max 14), TY (ten year) is 4). (The range varies according to the setup being used, ie. the reason for getting into the trade).

 

Now the BIG ADVANTAGE to this is I can increase (literally DOUBLE) my size and the winners are much larger - the losers controlled.

 

You might say - well, you will be STOPPED OUT of trades which end up being winners by doing this. Yes, that does happen but my experience is that it happens less than 10% of the time and I am much better off by missing out on some - but staying in on the ones that work right away.

 

Certainly, the above applies for day time frame trade entries which I expect to exit between 5 - 30 minutes. I would not do this for position trades, overnight or longer timeframe opportunities.

 

I tried to read this post but you lost me with the third sentence of broken english.

[bakrob99 11]

  RichardCox said:

I tried to read this post but you lost me with the third sentence of broken english.

 

Let me clarify.

 

What I am saying is quite simple.

 

Some trades work right away as price gives you a very quick and sustained move in your favour. Others don't

 

Why stay in the trades which don't work right away?

 

Why accept a loss which is much larger in size than you would otherwise have to? Is it because you're "right" about the move but perhaps a little early in the trade? I prefer to make money rather than be right.

[horace 10]

  bakrob99 said:

Thanks for your article but you missed the method I use for stop placement. It is the method which traders are told NOT to use. A PRICE STOP.

 

The reason I use this method is that I have a setup which count son momentum and after recording and analyzing well over 2000 trade setups in realtime, it is quite clear that some trades work immediately with very little MAE (adverse excursion - aka heat) and others don't. They chop around and may or MAY NOT eventually go in your favour. I have found that I want to stay in the working trades and GET OUT OF the chop em up and go nowhere trades. So as an example - even if structure would suggest say a 10 or 12 tick stop is needed in the ES, I enter and exit if 6 ticks of adverse excursion is experienced. NQ is 12 ticks (max 15), EC is 8-10 - (max 14), TY (ten year) is 4). (The range varies according to the setup being used, ie. the reason for getting into the trade).

 

Now the BIG ADVANTAGE to this is I can increase (literally DOUBLE) my size and the winners are much larger - the losers controlled.

 

You might say - well, you will be STOPPED OUT of trades which end up being winners by doing this. Yes, that does happen but my experience is that it happens less than 10% of the time and I am much better off by missing out on some - but staying in on the ones that work right away.

 

Certainly, the above applies for day time frame trade entries which I expect to exit between 5 - 30 minutes. I would not do this for position trades, overnight or longer timeframe opportunities.

 

Can you explain this method in a little more detail, as it is hard to follow your reasoning.

Thanks

[steve46 12]

The gentleman is right....the problem is that 1) he did his homework and you have not and 2) to make it work (the concept) you have to know in detail how your system acts (and most retail traders do not).....

 

To put it bluntly most retail traders want a formulaic system that is rule based and requires no "thinking".....and that is why they mostly fail.....ultimately one has to study the market and understand the mechanics......sorry.

 

Finally, the gentleman's English is not "broken".....the word processing (the automated spacing function) on this site sometimes produces distortions in the sentences...

 

Good luck folks

[bakrob99 11]

  horace said:

Can you explain this method in a little more detail, as it is hard to follow your reasoning.

Thanks

 

This point is only appropriate for shorter timeframes 5 minute or 15 minute chart - intra day. It is NOT a method. It's an observation.

 

The more trades I have taken and tracked carefully in my trading journal - the more I have concluded that REGARDLESS of what the type of entry is, or methodology, I have determined that over a series of in excess of 2000 trades over the course of several years, each trade has a certain amount of MAE (ticks against the entry position, and a certain amount of MFE (ticks in favour of the entry).

 

I have concluded (for ME - maybe not YOU), that I am better off the use a tighter stop than would be indicated by market structure, and increase size. The reason is simple: Many trades work with almost no heat ( 1 or 2 ticks) - whereas the trades that come back against the position may ultimately work - but only with a lot of heat. I prefer not to sit committed to a trade that is not performing as expected - or as the winners normally do.

 

Take the NQ for example. I use a 10-12 tick stop even if market structure dictates using a 20 or larger tick stop. The reason is that my trade setups work with less than 10-12 ticks of heat and are just as likely to fail at minus 20 as at minus 12. So why lose an extra 8-10 ticks? I can invest that risk in an extra contract or 2 and make more on my winning trades when they occur.

 

By increasing size and keeping dollar risk the same , my analysis revealed that profitability increases. Of course, the trade off is slightly lower win rate - but much higher Average Winning Trade.

[johnw 10]

  bakrob99 said:

Thanks for your article but you missed the method I use for stop placement. It is the method which traders are told NOT to use. A PRICE STOP.

 

The reason I use this method is that I have a setup which count son momentum and after recording and analyzing well over 2000 trade setups in realtime, it is quite clear that some trades work immediately with very little MAE (adverse excursion - aka heat) and others don't. They chop around and may or MAY NOT eventually go in your favour. I have found that I want to stay in the working trades and GET OUT OF the chop em up and go nowhere trades. So as an example - even if structure would suggest say a 10 or 12 tick stop is needed in the ES, I enter and exit if 6 ticks of adverse excursion is experienced. NQ is 12 ticks (max 15), EC is 8-10 - (max 14), TY (ten year) is 4). (The range varies according to the setup being used, ie. the reason for getting into the trade).

 

Now the BIG ADVANTAGE to this is I can increase (literally DOUBLE) my size and the winners are much larger - the losers controlled.

 

You might say - well, you will be STOPPED OUT of trades which end up being winners by doing this. Yes, that does happen but my experience is that it happens less than 10% of the time and I am much better off by missing out on some - but staying in on the ones that work right away.

 

Certainly, the above applies for day time frame trade entries which I expect to exit between 5 - 30 minutes. I would not do this for position trades, overnight or longer timeframe opportunities.

 

Good for you, you have unraveled the puzzle to momo intraday trading the ES.

Once you have established consistency then you steadily increase size.

 

I see you refer to time bars 5-30 minutes.

Why not try constant volume bars ... they will add a smoother flow to your game.

Why not try thinking in terms of win/scratch rather than win/loss... by all means maintain a 4-5 tic stop loss but think about scratching the trade for a tic or two either way rather than allowing your stop to be hit.

Keep track of these scratch trades each day and as you improve your skills their running total will steadily approach zero .. just imagine that, all your 'bad' trades incur a zero sum loss.

 

Give some thought to OCO trading and simply drag your two stops across the DOM ... never open up the stop loss.

Try a second screen 3x the size of your trading screen to offer direction and profit taking opportunity .... when this becomes second nature, try adding a 3rd screen 3x larger than the 2nd screen.

Be aware of the rth open at all times plus the usual range of previous high/lows ... the distance that price is from these horizontal lines is always critical as they have a magnetic effect.

The accumulated bid/ask delta is a two edged sword .... if you learn how and when to use it then it is useful ... if you are kidding yourself then it will work against you... my suggestion is to leave the delta alone until you know that you know what it means to you.

 

Once you begin to master this method, no amount of morphing, bots, news etc can ruin your day... some days will be good and some days will be even better, but these are the only two outcomes there can be ...unless of course you lose the plot.

good luck

[bakrob99 11]

  johnw said:

Why not try constant volume bars ... they will add a smoother flow to your game.

I read price action in relation to key reference levels and taking into account aggressive buyers or sellers. I don't need volume bars or any other type of advanced bar type to do this. (I gave up on them and became profitable because I am concentrating on what matters (I am not saying they don't work - just not for me)

 

  johnw said:

Why not try thinking in terms of win/scratch rather than win/loss... by all means maintain a 4-5 tic stop loss but think about scratching the trade for a tic or two either way rather than allowing your stop to be hit.

Not able to do this successfully. Don't get me wrong - I tried to do this for many years and got out of good winners and of course stayed with the losers. Now that I have a tight stop - I don't mind if it gets hit occasionally. I accept the risk.

 

  johnw said:

Keep track of these scratch trades each day and as you improve your skills their running total will steadily approach zero .. just imagine that, all your 'bad' trades incur a zero sum loss.

I will scratch a trade when sometimes but usually based on my target getting hit but not filled. I keep track of everything - including scratched trades.

 

 

Thanks for your suggestions.

[johnw 10]

  bakrob99 said:

I read price action in relation to key reference levels and taking into account aggressive buyers or sellers. I don't need volume bars or any other type of advanced bar type to do this. (I gave up on them and became profitable because I am concentrating on what matters (I am not saying they don't work - just not for me)

Not able to do this successfully. Don't get me wrong - I tried to do this for many years and got out of good winners and of course stayed with the losers. Now that I have a tight stop - I don't mind if it gets hit occasionally. I accept the risk.

I will scratch a trade when sometimes but usually based on my target getting hit but not filled. I keep track of everything - including scratched trades.

Thanks for your suggestions.

 

Good for you ... seems as though you have this game all sorted ...

[bakrob99 11]

  johnw said:

Good for you ... seems as though you have this game all sorted ...

 

I wouldn't say that it's all sort out. I have reliable setups and most often the willingness to take them. But EVERY day continues to be a learning experience and I think of things each day to improve and jot them down for analysis the next research day. That challenge and variety is what keeps me interested in doing this for a living.

 

My enthusiasm for recording and analyzing each setup as it unfolds and its results is strictly to build confidence and emotional capital needed to put funds at risk. I