When traders first begin considering their stop losses, keep in mind this comment from Tom Baldwin, a leading day-trader. He said: "The best traders have no ego."
Successful traders are faced with losses constantly, and they swallow their pride and get out of position when they need to. This allows traders to survive in the market long enough in order to be successful. Traders set their stop losses, and then stick to the plan.
How do traders go about setting stop losses? There are a variety of ways. Traders could base a stop loss on a percentage retracement, where the permitted share prices retrace a certain percentage of the entry to the exit. Several indicators can be used to identify where the stop loss will be set. Merchants can also use support and resistance stops to the level at which the turn is made set. The key is to just have a stop loss in place.
Personally I find these options too subjective. I prefer having a mechanical way to calculate my stop losses so I use a volatility based stop. The reason I stop this type is because volatility generally represents a measurement of how quickly the stock either rises or falls (market noise). So if I measure the volatility and take a multiple of that value, I'm probably going to have set off the direct sound from the market. My stop loss This ensures I have not stopped from a position too often.
Traders can measure volatility by using the Average True Range (ATR) from a stock. This value can be found with the most graphics packages. In short, the Average True Range (ATR) indicates how much a stock will move as an average over a given period. For example, if traders had a one dollar stock that moved up five cents on average over the last 20 days, that does not mean traders or the stock moves up or down. It tells just how much the average traders specific stock moves. The average true range is a great tool and can be used for more than trading plan setting stops the traders. If traders are not familiar with setting stops, I recommend traders to do research. A place for excellent article sources in the Trading System Blog.
Traders use indicators in the calculation of stop loss by subtracting a multiple of the Average True Range (ATR) of the entry. For example, could I take twice the ATR and subtracting my entry. If we look at the example, I got on with a one dollar stock, an ATR value of five cents and a multiple of two the amount is ten cents. Which, subtracted from our entry price of one dollar gives a stop loss value of 90 cents.
Before traders even a position to enter, they must know where the selling point of the stock should be. If the share price does not move in the traders preferred direction, but moves against them, traders will know when to sell. Emotions are removed from the equation, and they just follow what the stop loss dictates.
This is how most successful traders limit their losses. They know when they are going to sell before they start trading. Although their methods for calculating this stop loss may vary, all traders have a stop loss in place. The stop loss is a critical part of the merchants trading. Without it, even the best-designed trading system make a profit.
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