Day traders should always use a stop loss order on their trades. Barring slippage , the stop loss lets you know how much you stand to lose on a given trade. Since you will be using a stop loss as a day trader, the next step is learning how to calculate your stop loss, and determining where your stop loss order will go. It is unlikely you will have exact timing on all your trades, for example buying right before the price shoots up.
Therefore, when you buy, you need to give the trade a bit of room to move before it starts to go up. But, if you are buying you are expecting the price to go higher, so if it starts to drop too much it should hit your stop loss because you were wrong in your expectation.
As a general guideline, when you are buying, place a stop loss below a recent price bar low. Which price bar you select to place your stop loss below will vary by strategy, but this is a logical stop loss location because the price bounced off that low. If the price moves below the low again you may be wrong about the price going up, and therefore it is time to exit the trade. Figure 1 click to open shows examples of this tactic. As a general guideline, when you are short selling , place a stop loss above a recent price bar high.
Which price bar you select to place your stop loss above will vary by strategy, but this is a logical stop loss location because the price dropped off that high. If the price moves above that high again you may be wrong about the price going down, and therefore it is time to exit the trade.
Figure 2 click to open shows examples of this tactic. Your stop loss can be calculated in two different way: This is useful if you are just letting someone know where your orders are, or letting them know how far your stop loss is from your entry price.
It does not tell you or someone else how much of your account you are risking on the trade, though. Your dollar risk in a futures position is calculated the same as a forex trade, except instead of pip value we will use tick value. If you buy 3 contracts, your dollar risk is: To take this a step further, the amount of dollars you are risking should only be a small portion of your account.
Quickly work the other way to see how much you can risk per trade. Always use a stop loss, and your strategy determines where the stop loss is placed.
That's because the stop loss should be placed strategically for each trade--it should only be hit if you are wrong about the direction of the market. That way, even a string of losses won't greatly deplete your trading account.
Updated by Cory Mitchell. Updated September 16, Final Word On Calculating a Stop Loss Always use a stop loss, and your strategy determines where the stop loss is placed.More...