How to Use a Stop Loss Order

Introducing the Basic Concepts of a Stop Loss Order

When either buying or selling shares using traditional methods of speculating, the stop-loss has always played an important role in restricting the levels of risk exposure. They are especially important when spreading betting as you will be trading using extensive leverage facilities which can substantially expose your funds to increased levels of risk. As such, spread betting stop-losses are one of your primary methods of coping with such problems.

An example of a spread bet involving a stop-loss is:

‘Buy 200 Apple at 500, stop 480’.

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Such an order could activate the purchase of 200 shares of Apple at a price not in excess of $500 per share with a stop-loss placed at $480. If price dropped beneath $480 per share at any time, then the 200 shares must be sold immediately at the best available price without any further instructions supplied by the trader.

This bet can be analyzed from another viewpoint to provide deeper insights into the concept of the stop-loss. Basically, the trader will spend $100,000 buying the 200 Apple shares. However, if price drops and moves against the position, losses would be limited to $10,000 before the position is closed. As spread betting entails high levels of risk primarily due to leverage, you are well advised to incorporate the usage of stop-losses as an essential component of your trading.

You may question the wisdom of this advice by pointing out that price can often drop before rallying in your favored direction. However, as such a sequence does not always happen, you must regard stop-losses as a crucial tool of your money management strategy especially as you will be trading on margin.

Limiting your Risks with Stop Loss Orders

To achieve long-term success at spread betting, you must make risk and money management a central feature of your trading strategies from the very beginning. All experts possess a healthy respect for risk. Even after you gain extensive experience and skills at spread betting, you must still persevere at perfecting your abilities to control risk.

Many professional traders regard the stop-loss as the most valuable order type as it can prevent you from experiencing substantial losses. You can locate a stop-loss at a specified value so that if price hits this level your bet is exited automatically. Such an event is denoted by the phrase; your trade has been “stopped out”. Your losses will then be limited even if price proceeds to advance even further against your position. Once you have placed a stop-loss order you do not have to issue any further instructions if price hits this value.

Tips for Activating a Stop Loss Order

  1. Even before you open a spread bet, you must identify when to exit it in order to restrict your losses.
  2. Be mentally prepared for all possible market conditions.
  3. Do not place very large stop-losses as you could sustain colossal losses.

As the position of a stop loss can often be identified by using charts, it can often be located beneath major support levels, if trading long. Many experts utilize a risk policy of wagering a pre-defined percentage of their total capital per bet, i.e. 2%. This objective can be achieved by locating the stop loss at a key point displayed on the relevant trading chart and then modifying the size of the bet to comply with your chosen risk percentage. Such a money management policy will enable you to protect your fund while allow your bets room to breathe and profit.

Stop-Loss Trade Example:

Envisage that you have just implemented a long spread bet and have set a stop-loss below your entry level to protect your capital if price should advance against your position. You do not want to accept any further losses if your trade gets ‘stopped-out-.

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The chart above demonstrates that you open a long spread bet with an entry price of 500 (green line). In addition, you deduced that should price drop beneath 450 then you want to exit the trade by limiting your losses. Consequently, you issue a stop-loss order at 450 (blue line). If price now fall and hit your stop-loss, your bet with be exited at your pre-determined point.

A major feature to appreciate is that your position may not close at the price value identified by your stop-loss. Such a situation could arise if the market is volatile implying that you could suffer a larger loss than you anticipated.  A stop loss order requests that your spread betting broker closes your trade once price hits a selected value. As your stop-loss order will take a little time to fully execute, widely fluctuating price movements could produce slippage in your exact closing price compared to the quoted value.

Consequently, you must always assess the prevailing volatility level of the market whenever you set a stop-loss. For example, if you locate a stop-loss too near the entry price of your spread bet, then volatile conditions could cause your trade to get quickly ‘stopped-out’. Such a situation can arise even though price initially moves in your favored direction. High volatility can cause price to retract sharply and trigger your stop-loss prematurely.

Alternatively, you must always refrain from selecting a stop-loss that is positioned too far away from your entry value. This is because you could incur substantially losses. To evaluate the current level of volatility, you should analyze the appropriate trading chart and ascertain the size of the latest price oscillations.

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