Why Is It Necessary To Use A Stop Loss?
This article will explain what stop losses are and why you should always use them. Have you figured out your psychology already and want to learn how to calculate your profit and loss levels? Check out this article.
Using Stop Losses
Trading can give you big winners, but it can also give you big losers. If you want to become profitable, you need to figure out a way to keep your winners big and limit the losses you are taking. In other words, in order to be consistently profitable in trading, you must enforce risk management. One of the many ways to do this is by using a stop-loss strategy. Here is why!
Probabilities Versus Certainties
It's part of human nature to have the desire to be right. In trading, this desire is being emphasised as traders and investors consider their credibility lost if they are wrong, in addition to having to deal with losses that are out of proportion. The truth is that in trading, there is no way of knowing for certain what the price might do in the future. Anything can happen at any given time. As a matter of fact, as long as humans participate in the free market, this will be a self-fulfilling prophecy. Therefore, instead of wanting to be right, one must accept the fact that there is no way of knowing. Biases, opinions, and trading setups should always be approached in terms of probabilities, because when thought of this way, the mind is always open for a potential loss. Once that idea is ingrained in your mind, it is possible to accept the possibility that you may be incorrect. And even better, it is possible to determine where you may be incorrect on your idea, and as such, a stop loss gets you out of that trade whenever the idea is invalidated.
Losing Small and Winning Big
Trading is a game of probabilities, not certainties, so losing trades are unavoidable. Because it is simply impossible to avoid losses, the trick is to limit them to the point where they are easily recoverable in the event of a future winning trade. Using a stop-loss and having a target in mind can help you determine how much you risk on a particular trade versus how much you might gain if the trade is a winner. Not only can this assist in identifying a worthy trade setup in which you risk less than you intend to gain, but it can also assist in cutting your losses and keeping them small while allowing winning trades to run.
With every trade closure, a new opportunity can present itself. Staying in a trade for too long can result in tunnel vision that might let you miss trade setups that come along the way. Furthermore, losses may be greater than anticipated and, in some cases, to a degree that will significantly harm your portfolio. Cutting losses quickly and early helps you to free up capital that you can use to seize a fresh opportunity that presents itself along the way that you would otherwise not be able to take as you would still be dealing with a losing trade.
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