Where to Place a Stop Loss Order When Trading

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What a Stop Loss Is

A stop loss order is simply an order that closes out your position at a specific price. It controls your risk by limiting your loss to that price. If you buy a stock at $20 and place a stop loss at $19.50, when the price reaches $19.50 your stop loss order will execute, preventing further loss.

Stop loss orders are usually "market orders," meaning it will take whatever price is available once the price has reached $19.50 (can be based on the bid, ask or last price touching $19.50). If no one is at that price to take your trade off your hands, you could end up with a worse price than expected. This is called slippage. As long as you are trading stocks, currencies or futures contracts with high volume, slippage while day trading isn't usually an issue.

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Where to Place a Stop Loss Order When Buying

where to place a stop loss order when buying
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A stop loss shouldn't be placed at a random level. The ideal place for a stop loss is at a location which allows the market enough room to fluctuate a little while it starts to move in your favor, but gets you out of your trade if the price turns against you. 

One of the simplest methods for where to place a stop loss order when buying is to put it below a "swing low." A swing low occurs when the price falls and then bounces. It shows the price found support at that level.

You want to be trading in the direction of the trend. As you buy, the swing lows should be moving up. The chart shows several potential entry points along with a possible stop loss locations for each entry.

Click for larger image.

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Where to Place a Stop Loss Order When Short Selling

where to place stop loss order when short selling
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A stop loss shouldn't be placed at a random level. The ideal place for a stop loss is at a location which allows the market enough room to fluctuate a little while it starts to move in your favor, but gets you out of your trade if the price turns against you. 

One of the simplest methods for where to place a stop order when short selling is to put it above a "swing high." A swing high occurs when the price rises and then falls. It shows the price found resistance at that level.

You want to be trading in the direction of the trend. When looking for short trades the swing highs should be moving down. The chart shows a potential entry along with a possible stop loss location for a short trade.

Click for larger image.

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Where to Place a Stop Loss - Alternatives

Above a swing high when shorting or below a swing low when buying isn't the only place to put a stop loss. Depending on your entry price and strategy, you may opt to place your stop loss at an alternative spot on the price chart. 

If using technical indicators, the indicator itself can be used as a stop loss level. If an indicator provided you with a buy (go long) signal, a stop loss can be placed at a price level where the indicator will no longer signals it's wise to be long.

Fibonacci Retracement levels can also provide stop loss levels. 

Volatility is also commonly used to set stop loss levels. An indicator such as Average True Range tells how much the price typically moves over a period of time. Traders can set a stop loss based on volatility, attempting to place a stop loss outside of the normal fluctuations. This can also be done without an indicator by measuring the typical price movements on a given day and then setting stop losses and profits accordingly. 

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Define Your Stop Loss Strategy

Stop loss levels shouldn't be placed at random locations. Where you place a stop loss is a strategic choice, and should be based on testing out and practicing multiple method and finding which works best for you.

A trading plan is where you define how you will enter trades, how you will control risk and how you will exit profitable trades. Isolating the trend direction and controlling risk on trades is of paramount when learning how to day trade.When starting out, keep trading simple. Trade in the overall trending direction, and use a simple stop loss strategy that gives enough room for the price to move in your favor, but cuts your loss quickly if the price moves against you.