In order to protect your initial capital from a bad trade you need to use a stop loss. It is the simplest, most efficient and most common way of risk management in Forex. Yet it can be very devastating when used improperly because if placed too tight or used without confirmation, it may cause a complete loss of your investment! Thus, it is crucial to understand the basics of stop-losses and the available variations so you can maximize your profits and minimize your risks.
Popular Forex stop-loss strategies include
1) Fixed Stop Loss - This type of a stop loss does not allow for a change in position once opened, no matter what happens during that particular trade. The risk is always the same and cannot be adjusted, so it can most often lead to a complete loss if the market moves against you.
2) Trailing Stop Loss - this type of stop-loss strategy allows an already existing position to fluctuate with the market movement after opened, while protecting profits at all times. This, of course, does not protect you from a sudden market crash
3) Key Level Stop Loss - this type of stop loss uses price action key levels to trigger the move. Thus it is best to use with an active or breakout strategy because if you are trading range bound currencies it may not be very helpful. Additionally, this method requires prior knowledge of support and resistance key levels in order to be effective.
4) Volatility Stop Loss - this is the best way to protect your capital because it allows you to adjust risk according to volatility changes, thus protecting profits when there's low volatility and allowing you to increase with high volatility.
5) Fixed Percentage Stop - this allows you to set the stop loss based on a percentage of the overall investment. It is best used with high-volatility currencies, where prices fluctuate often by up to 200 pips or more per day.
6) Range Stop Loss - this method simply protects profits after you are in the trade according to your entry point. For example, you get into a trade with GBP/USD using the support of 1.4500 level. When the price hits resistance at 1.4800, your stop loss is automatically set to break even because it is basically protecting profits based on the entry point only.
7) Confirmation Stop Loss - this strategy simply protects your position after you've confirmed the direction of the trade. It is best used on breakouts and with price action traders, who look for confirmation of a trend before entering a trade.