The importance of using stop losses when trading online

As a beginner online trader, you have a number of items to check off your trading list before you can start executing trades. According to one of the top senior financial analysts at Olsson Capital, one of the most important items to understand is that of a stop loss. Without understanding and adding a stop loss to all your trades, your losses will soon become too much to bear, making the risk of trading almost impossible. But first, let us look at what exactly a stop loss is and how it is incorporated into the trades you make.

Explaining a stop loss

A stop loss can be defined as the option to purchase or offer a stock once it reaches a specific cost. The stop-loss is intended to restrict a broker’s loss when executing a trade. Having said that, when you begin online trading, utilizing a stop loss is an absolute necessity. Before entering a trade you must know when to get out if the trade if it won’t offer you the profit you initially calculated. For instance, if a broker bases his stop loss at a certain level, the stop loss will take action and automatically exit the trade, stopping you from suffering further losses. If an online trader has a maximum loss stop to secure their portfolio, he or she should be aware of the risks associated with this as it could cause a huge loss of capital.

Adding stop losses to your account does not only safeguard your capital, it teaches you when to enter and exit a trade that will be fruitful. As a beginner trader, this tool is essential for building trading experience. Expert traders also make use of this tool as it automates their trading experience to the extent where they can rest assured they won’t lose more capital than they can afford.

Types of stop losses

There are four main types of stop losses a trader can make use of when setting up a trading account and they include:

  • Stop-Loss Order – If the market price exceeds the stop price, your order is sent to the exchange as a market order.
  • Stop-Limit Order – A Stop-Limit is a combination of both a Stop-Loss order and a Limit Order. To make use of this type of stop loss, you need to enter a stop and limit price. If the market exceeds the Stop Price, your order becomes a Limit Order.
  • Trailing Stop:  A trailing stop order is a special kind of sell stop order. This stop loss is used if the bid price falls to a certain trigger price. It allows the sell order to execute on an exchange.
  • Range Stop Order:  Also known as a bracket order.  You will put in the Stop price and then the Low price.  Once your stock hits the range you designate, it is sent to the exchange as a market order.

Why are stop losses so important?

Since trading capital is the lifeline of a day trader, he or she must protect every cent of it. The best way to do this is by knowing before entering where the exit points will be; both profit targets and stop loss. Not only should the trading strategy provide the trader with an entry with a higher probability of making money, but also with strategic and specific points to limit losses. These stops should keep the losses from bad trades at a manageable level and be flexible enough to give winning trades room to grow. 

Remember that, as a new trader, you must learn discipline and trust your stops.  Setting stop losses will go a long way to doing that.  It is better to set a stop loss, cut your losses and walk away with some capital left in your pocket than leaving empty-handed. The secret when entering a losing trade is setting a stop loss – rather be safe than sorry for being an online trader already carries a certain amount of risk. Do not let this discourage you, however, as any trader should know that with every winning trade, you will have a few losing trades as well.