Stop loss orders are a crucial element of the risk management toolbox of any trader. A stop loss is a type of order that is placed with a broker or exchange to buy or sell an asset when it reaches a certain price. It is designed to help traders manage risk by allowing them to set a maximum loss that they are willing to accept on a given trade. When the stop loss price is reached, the order becomes a market order and is executed at the best available price. The goal of a stop loss is to limit potential losses on a trade, so that traders do not have to constantly monitor their positions and can instead focus on other aspects of their trading strategy.
Why is a stop loss recommended?
Stop loss orders can be a useful tool for managing risk and preserving capital, and many traders use them as part of their overall trading strategy. However, it is important to keep in mind that stop loss orders do not guarantee a specific price, and it is possible for the order to be filled at a price that is different from the stop loss price. This is known as slippage, and it can occur due to a number of factors, including market volatility and the liquidity of the security.
Additionally, stop loss orders can be subject to gap risk, which means that the market price of the asset could gap down or up past the stop loss price, resulting in a larger loss than expected.
Overall, stop loss orders can be a useful risk management tool, but it is important for traders to carefully consider their use and to understand the potential risks involved.
There are several reasons why a trader might set a stop loss order:
Risk management: As mentioned before, a stop loss order helps traders manage risk by setting a maximum loss they are willing to accept on a trade. This can help prevent large, unexpected losses and protect a trader's capital.
Preserving capital: By limiting potential losses on a trade, a stop loss can help traders preserve their capital and ensure that they have enough funds available for future trades.
Automation: A stop loss order can be used to automate the process of exiting a trade, which can be especially helpful for traders who have busy schedules or who may not be able to constantly monitor their positions.
Emotional control: Setting a stop loss can help traders make more rational, unbiased decisions, as it removes the emotion from the equation and allows them to stick to a predetermined plan.
What is a trailing stop?
A trailing stop loss is a type of stop loss order that adjusts the stop price at a fixed percentage or dollar amount below or above the market price of an asset. As the market price of the asset moves in favor of the trade, the stop loss price adjusts accordingly, giving the trade room to potentially continue to profit. If the market price moves against the trade, the stop loss price remains at the most recently adjusted price, protecting any profits made up to that point.
For example, if a trader has a long position in an asset and sets a trailing stop loss at a 10% trailing amount, the stop loss price will adjust as the market price of the asset increases by 10%. If the market price subsequently drops and the stop loss is triggered, the trader will sell the asset at the highest price that it reached before the price drop.
Trailing stop losses can be a useful tool for traders looking to maximize their profits on a trade while also protecting against potential losses. However, it is important to keep in mind that like regular stop loss orders, trailing stop losses do not guarantee a specific price and can be subject to slippage and gap risk.
What is the purpose of a trailing stop and what is the advantage over a normal stop loss?
One advantage of a trailing stop compared to a normal stop loss is that it allows a trade to continue to profit as the market price of the asset moves in the desired direction. With a normal stop loss, the stop price is set at a fixed price, and if the market price moves in favor of the trade, the stop loss will not be triggered until the market price moves back below the stop price. This means that the trade will not be able to capture any additional profits beyond the stop price.
On the other hand, with a trailing stop, the stop price adjusts at a fixed percentage or dollar amount below or above the market price, allowing the trade to potentially continue to profit as the market price moves in favor of the trade. If the market price subsequently moves against the trade, the stop loss price remains at the most recently adjusted price, protecting any profits made up to that point.
Another advantage of a trailing stop is that it can help traders manage risk and protect their capital without requiring them to constantly monitor their positions. With a normal stop loss, traders would need to manually adjust the stop price as the market price moves in favor of the trade, but with a trailing stop, the stop loss adjusts automatically. This can be especially helpful for traders with busy schedules or who may not be able to constantly monitor their positions.
How can I set a trailing stop when trading cryptocurrencies?
Several reputable exchanges offer the possibility to set a trailing stop when trading cryptocurrencies. One such exchange is Bybit. If you like to watch a step-by-step tutorial of how to set a trailing stop, take a look at our video tutorial on Youtube.
You can find Bybit here.
You can find our Youtube tutorial here: