Stop Loss orders are one of the simplest and most essential things in forex trading for protecting your trade capital against dramatic losses. Stop-loss is a protective order placed to sell (or buy) the financial instrument when the price reaches a certain level. Different people might have other goals using stop losses, but they generally serve as a risk management tool and not an entry or exit signal. They can be used to stop losses on losing trades and secure some profit on winning ones.
For example, following an uptrend, you might be looking to buy a currency pair at a certain price level where you expect the market to reverse and continue moving up. If the move doesn’t materialize and the price continues to fall, it would be good to protect your position against the downside. Entering a stop-loss order, you can set up at that level will prevent further losses. Once it hits the price level where you forecasted the market turn, your trade will be out of danger and start to recover potential profits.
Another scenario is when following a recent uptrend, the market tests support levels where you are looking to buy. If the support doesn’t hold and prices start moving lower again, you will probably want to protect your position if it starts showing signs of reversing up again. Entering a stop-loss order at that price level would be one way to avoid further losses. If the market continues moving down after all, at least you will be out of the trade having some profits already. On the other hand, if prices start to recover again and reach your stop loss level, you should consider closing your position with a take-profit order.
In both examples above, we were looking for an opposite movement from the trend, which would indicate that the trend is about to end. A stop-loss order works best as a risk management tool when looking for confirmation of the reversal patterns with price action analysis, which is where you are waiting for prices to move below support or above resistance before opening your position.
Overall, stop-loss orders are beneficial for those traders who are trading as part-time traders. However, many experienced traders are also using this fantastic trading feature in MT4 and MT5 trading platforms to avoid additional risks in trading.