Talking to many struggling traders from different parts of the world, I realized that the majority constantly makes the same mistake: they do not set a stop loss.
Asking for the reason why they do that, the common answer is that
these traders consider the manual position closing to be safer, implying that if the market goes in the opposite direction, they will be able to much better track the exact moment to cut loss.
In this article, we will discuss why it is crucially important to set a stop loss and why it is the number one element of your trading position.
First of all, let's discuss what is a stop loss. By a stop loss, we mean a certain price level where we close our trading position in loss. In comparison to a manual closing, the stop loss should be set at the exact moment when the order is executed.
Stop loss allows us limiting the risks in case of unfavorable movements.
On the chart above, I have illustrated 2 similar negative scenarios: 1 with a stop loss being placed and one without.
In the example on the left, stop loss helped to prevent the excessive risk, cutting the loss at the beginning of a bearish wave.
With the manual closing, however, traders usually hold the negative positions much longer, praying for a reversal.
Holding a losing trade, emotions intervene. Greed and fear usually spoil the reasoning, causing irrational decisions.
Following such a strategy, the total loss of the second scenario is 5 times bigger than the total loss with a placed stop loss order.
Stop loss defines the point where you become wrong in your predictions. Planning your trade, you should know in advance such a point and cut your loss once it is reached.
Never trade without a stop loss.